Legal Opinions in Business Transactions (Excluding the Remedies Opinions) -- May 2005, Revised October 2007. The Corporations Committee of The State Bar of California Business Law Section
V. Certain Common Opinions and Special Issues Under California Law and Practice

This Report does not attempt to provide an exhaustive list of the many opinions that may be given in business transactions. Instead, this part of the Report identifies and addresses some of the most common opinions. In each case, emphasis is given to issues with special relevance to California.138 In addition, the discussion includes the Committee's understanding of current customary practice and illustrative text for each opinion.

The Committee is aware that California opinion givers have varying levels of familiarity with other major opinion reports and base their own opinion practices to varying degrees on their understanding of those reports. Summary references are made to one or more of those reports where the Committee believes that readers of this Report may find them useful. In those instances, the purpose is to provide a point of reference rather than to distinguish or (unless specifically stated) differ from the views expressed in those reports.

A. Corporate Status

Opinions on corporate status are common in lending, securities and other corporate transactions. Corporate good standing is necessary, among other reasons, to preserve a corporation's right to prosecute, defend or appeal an action in California courts. Purchasers of a corporation's securities and others seeking to do business with a corporation often seek an opinion that the corporation is in good standing with the Secretary of State and the Franchise Tax Board. An opinion on corporate status is almost always requested by lenders proposing to make loans to a corporation.

A typical opinion regarding corporate status reads as follows:

The Company is validly existing and in good standing under the laws of the State of California.

1. Special Note on Due Incorporation/Organization

Historically, corporate status opinions included an opinion to the effect that the Company was "duly incorporated." "Duly incorporated" in California means that the corporation complied with the statutory requirements under the Corporations Code to become a California corporation at the time of its formation.139 Due incorporation is evidenced in California by the filing of the initial articles with, and acceptance of the filing by, the Secretary of State. The Committee believes that opinion practice in California is evolving away from providing "duly incorporated" opinions, particularly for older corporations, to providing a "validly existing" opinion (discussed below). However, the remainder of this Section provides an overview of the "duly incorporated" opinion because, despite the above-noted trends, some California lawyers continue to be asked for the opinion.

The "duly incorporated" opinion does not cover any action by the Company after the initial articles have been filed and certified. Since the "duly incorporated" opinion only covers the Company's status at the time of incorporation, it never stands alone. Rather, it is routinely paired with an opinion about the Company's current status (e.g., validly existing or in good standing, each as discussed elsewhere in this Section).

The Corporations Code provides that a copy of the articles certified by the Secretary of State is conclusive evidence of due incorporation.140 Therefore, opinion givers rely solely on a certified copy of the initial articles to deliver the "duly incorporated" opinion for a California corporation.

A less-desirable alternative to the "duly incorporated" opinion as to corporate status is the "duly organized" opinion. The term "duly organized" was historically understood to refer to the initial corporate actions taken after the Company had been incorporated: appointment of the board of directors, the adoption of its bylaws, and the election of officers. These actions (unless the initial directors are named in the articles) must be taken before the Company can take any additional corporate action. If the Company has not been duly organized, all corporate actions otherwise apparently taken may be subject to subsequent invalidation. To deliver a "duly organized" opinion, opinion givers rely on an examination of the Company's minute books and one or more officers' certificates certifying those minutes.

The "duly organized" opinion was also historically understood to encompass the original authorization and issuance of shares of the Company. The TriBar Report suggests that the initial issuance of stock is covered by a "duly organized" opinion. The TriBar Report also points out that a corporation's due organization must be based on the laws that existed at the time of organization and, therefore, concludes that the "duly organized" opinion can be onerous if the actions were taken long ago, and is most often rendered when a corporation has been recently organized.141 Opinion givers may also be asked to render this opinion if they have represented the Company since its incorporation.

The Committee believes that it would be appropriate for an opinion giver to decline to give either of the opinions covered by this subsection, unless the opinion giver was responsible for the Company's incorporation. If an opinion giver elects to do so, the Committee believes that the "duly incorporated" formulation of this opinion is the more common one.

2. Validly Existing

a. What it means

"Validly existing" means that a corporation has not dissolved or ceased to exist. The adverb "validly" means that a corporation is a de jure corporation and not merely a de facto corporation. The opinion also means that no dissolution proceedings have been initiated.

b. What sort of information lawyers customarily rely upon to deliver this opinion

To deliver this opinion, opinion givers rely on good standing certificates from the Secretary of State, a review of the minute book (to ensure that no dissolution proceedings have commenced) and an officers' certificate.

c. Other major opinion reports

The TriBar Report states that the "validly existing" opinion can be given in two ways. First, it can be given as a supplement to a due incorporation or due organization opinion based solely on a certificate from the Secretary of State. Second, it can be given as a stand-alone opinion (instead of the due incorporation opinion) when the statutes in existence and corporate records at the time of incorporation are difficult to locate. In the latter case, the opinion giver examines the articles and certificate from the Secretary of State, but does not necessarily review the corporate record books. The TriBar Report further states that this opinion used alone is growing in acceptance but that doing so for a recently incorporated company is the exception.142 The Committee concurs in this observation.

3. Good Standing in California

a. What it means

A corporation is in good standing when its charter has not been suspended or forfeited, which for a California corporation can occur from a failure to (1) pay state taxes, (2) file tax returns with the Franchise Tax Board, or (3) file an annual statement with the Secretary of State.

b. What sort of information lawyers customarily rely upon to deliver this opinion

Opinion givers typically rely solely on a good standing certificate from the Secretary of State, as that certificate includes information from the Franchise Tax Board. However, many lawyers also obtain a good standing certificate from the FTB if time permits or if there is otherwise reason to believe that the Company may be delinquent on its filings with the Franchise Tax Board.

4. Good Standing in Other Jurisdictions

California lawyers are often asked to give an opinion on the standing of a foreign corporation. Opinion givers usually give this opinion by relying solely on a good standing certificate from the Company's state of incorporation.

Opinion givers are also often asked to give an opinion on whether the Company is qualified to do business in a foreign jurisdiction. A typical opinion on that point reads as follows:

The Company has qualified to do business and is in good standing in the state[s] of is Blank line for inserting response.

This opinion is usually based solely on a certificate from the foreign jurisdiction.

It is generally accepted that an opinion giver should not be asked for an opinion that the Company is qualified to do business as a foreign corporation in all jurisdictions in which its property or activities require qualification or in which the failure to qualify would have a material adverse effect on the Company.143 An opinion on qualification to do business in selected states, if rendered at all, is based solely on certificates of public officials. Delivery of those certificates, without an opinion, ordinarily should be sufficient to satisfy the needs of the opinion recipient, thereby making this opinion unnecessary.144

B. Corporate Power and Corporate Action

A lender, purchaser of corporate stock or other party who proposes to consummate a significant transaction with the Company is interested not only in its corporate status, but also in its corporate power to enter into the Agreement and to conduct its business generally and the corporate action it has taken to approve the transaction.

1. Corporate Power to Conduct Business and Enter into Agreement

A typical opinion on corporate power for a particular transaction and the general transaction of business reads as follows:

The Company has the corporate power to enter into and perform the Agreement [and to carry on its business as it is currently being conducted.]

a. What it means

The "corporate power" opinion addresses whether the Company is permitted pursuant to the corporate law of its jurisdiction of incorporation and its articles to engage in a specified activity or enter into a specified agreement. The corporate power opinion means that the relevant action or agreement is not ultra vires. The opinion does not speak to whether the action is restricted by laws other than the corporate law of the jurisdiction of incorporation, such as laws requiring licenses or permits.

Since the adoption of the GCL in 1977, the "corporate power" opinion provides little problem for California corporations that do not have limitations specified in their articles. Corporations Code Section 206 permits a corporation, other than a corporation subject to the California Banking Law or a professional corporation, and subject to compliance with other applicable laws, to engage in any business activity. 145 Those corporations subject to the California Banking Law or the laws governing professional corporations may engage in any activity not prohibited by the respective statutes and regulations to which the corporation is subject.146 Corporations Code Section 207 provides that a corporation has all the powers of a natural person in carrying out its business activities and lists a number of the powers included in that broad authorization.147 Corporations organized or governed by other statutes, however, may have restricted powers.

Historically, the corporate power opinion included a reference to "authority" in addition to "power." Because of concerns that a reference to "authority" could lead to a more expansive interpretation of the "corporate power" opinion, current practice appears to be moving away from including "authority."148 However, the "corporate power" opinion is generally understood to have the same meaning whether or not "authority" is included and, to the extent that the word "authority" is included, it is generally understood to be limited to "corporate authority" even without the modifier "corporate" immediately preceding the word "authority."149 In addition, the corporate power opinion has historically included an express opinion that the subject corporation has the corporate power to own and operate its assets. Current practice seems to be evolving away from this form of opinion in favor of limiting the "corporate power" opinion to the Company's power to carry on its business as it is currently conducted.

b. What sort of information lawyers customarily rely upon to deliver this opinion

A review of the articles should be conducted to identify any provision restricting corporate power. In addition, opinion givers also confirm that the Company is not subject to the California Banking Law, is not a professional corporation, and is not subject to any limitation under "any other applicable laws . . . ."150 For example, the corporate power to reacquire shares, granted by Corporations Code Section 207(d), is subject to the provisions of Section 510 of Corporations Code, and the corporate power to enter into contracts and guarantees, granted by Section 207(g), is subject to the provisions of Section 315 restricting loans to, or guarantees of the obligations of, directors and officers. In addition, an understanding of the business conducted by the Company is necessary, which is customarily based upon a description contained in a disclosure document or in one or more officers' certificates.

c. What the opinion does not cover

The "corporate power" opinion does not extend to other California (or other state), federal or local authorizations and approvals. An opinion as to such authorization and approval is much more expansive than the "corporate power" opinion. Among other things, it requires a level of knowledge about, and diligence regarding, the business of the Company that is not customarily undertaken to deliver the "corporate power" opinion. In addition, the "corporate power" opinion does not address provisions of corporate laws that may have collateral effects, such as the imposition of liability on directors who approve an interested-party transaction, appraisal rights or rights of shareholders to approve a transaction.151

2. Due Authorization, Execution and Delivery

A typical "duly authorized" opinion reads as follows:

The Agreement has been duly authorized by all necessary corporate action on the part of the Company and has been duly executed and delivered by the Company.

a. What it means

"Duly authorized" means that the board of directors (or a duly authorized committee of the board, and, if necessary, the shareholders) of the Company have taken all necessary action to approve the execution, delivery and performance of the Agreement and that the Company has complied with the procedures applicable to obtaining such authorization. "Duly executed" means that the officers who have signed the documents on behalf of the Company were authorized to take such action and that those officers were current officers of the Company at the time of execution. "Duly delivered" means that the Company has delivered the Agreement to the other party or parties to the transaction to create a binding contract. The phrase "duly authorized by all necessary corporate action on the part of the Company" may be preferable to "duly authorized" alone, as the latter might be construed to imply authorization under law other than the GCL or by a governmental regulatory body or by another third party whose consent may be required, although the Committee does not believe that any such inference is justified or appropriate.

b. What sort of information lawyers commonly rely upon to deliver this opinion

The "duly authorized" opinion requires a review of the articles and bylaws of the Company and of the California Corporations Code to determine the approvals required and the procedures for obtaining them, including notice provisions for meetings and any restrictions on the use of written consents. The opinion also may involve a review of the minute book to verify that the action has in fact been taken. Opinion givers often alternatively rely on a secretary's certificate certifying the adoption of the relevant resolutions.152 With that certificate, the opinion giver is entitled to assume (without stating), and rely upon such assumption in rendering the opinion, that the directors approving the action were duly elected and that, in approving the transaction, required procedures (e.g., presence of a quorum and the giving of appropriate notice) were satisfied. 153 Verification of any required shareholder approval involves a review of the Company's compliance with applicable procedures for obtaining such approval, such as the presence of a quorum and the giving of appropriate notice or compliance with applicable shareholder consent procedures. This is also usually accomplished through a secretary's certificate certifying the adoption of the relevant resolutions.

The "duly executed" opinion involves a review of the minutes or reliance upon an officers' certificate to establish that the officers executing the documents on behalf of the Company have been validly elected, that they are or were officers of the Company at the time of execution, and that they were in fact authorized to execute the documents on behalf of the Company. While the "duly executed" opinion also addresses the genuineness of the signatures of the signing officers, such genuineness is expressly or implicitly assumed.

Giving an opinion that a document has been "duly delivered" generally means that the opinion giver is present at the delivery of the signed Agreement or otherwise satisfied as to the implementation of procedures for actual delivery.

c. What the opinion does not cover

In rendering the "duly authorized" opinion the opinion giver assumes that the directors or officers of the Company, in approving a transaction or agreement, are in compliance with their fiduciary duties. Fiduciary duty questions are largely factual and subjective in nature. By custom, opinion givers assume (without stating) that the board of directors has fulfilled any fiduciary duties that are applicable to the approval of the Agreement (as opposed to specific procedures required by the articles, bylaws or the GCL).

The "duly authorized" opinion does not include an opinion as to the sufficiency of any disclosure document used to solicit shareholder approval of the transaction. Some lawyers choose to state expressly this assumption in situations in which fiduciary duty issues are particularly sensitive (e.g., agreements entered into as anti-takeover devices) or with respect to the sufficiency of a proxy solicitation.154 The assumption, however, is not appropriate if the opinion giver knows it is incorrect or that reliance on it would be unreasonable.155

d. Special issues under California law: Section 2115 and SB 1306

There are two special issues that the Committee believes are worth highlighting in connection with the "duly authorized" opinion: (1) the impact of Corporations Code Section 2115 pursuant to which certain corporate governance requirements of California law could be applicable to a corporation formed under the laws of a state other than California (referred to colloquially as a "quasi-foreign corporation"); and (2) the impact of the enactment in August 2004 of SB 1306, which amended the GCL to permit shareholder and director meetings to be conducted by "electronic transmission by and to the corporation" and to permit corresponding notices of such meetings, in both cases if specified procedures are followed.156

For the most part, this Report seeks to address issues of law applicable to California corporations entering into business transactions governed by the laws of the State of California. Corporations Code Section 2115 does not apply to California corporations. As a practical matter, however, it is not unusual for California lawyers to render legal advice to a corporate client doing business in California (possibly even based in California) but incorporated under the laws of another state. In those cases, the opinion giver may find itself rendering a legal opinion for which application of Section 2115 could be implicated in a "duly authorized" opinion. If so, the opinion giver will need to be aware of the provisions of the Corporations Code specified in Section 2115 as possibly being applicable to a "quasi-foreign corporation." The Committee notes that the intricacies of Section 2115 and the impact of the Section on legal opinions rendered in connection with business transactions are beyond the scope of this Report, although it should be noted that if a foreign corporation meets the three-factor test for the application of Section 2115 (generally that more than 50% of its property, payroll, and sales are in or from California) and more than half of its outstanding voting securities are held of record by California residents, and the corporation is not publicly-traded, then each of the provisions of the Corporations Code referenced in Section 2115 should be carefully reviewed to determine its applicability to the Company's authorization of the Agreement and to the enforceability of the Agreement.157

SB 1306 was signed into law on August 23, 2004 and became effective on January 1, 2005. Its purpose is to permit the use in corporate proceedings of emerging technologies of communication, including the Internet and the world wide web. The Committee played an active role in the drafting of, and legislative deliberations on, SB 1306. It is not, however, in a position to speculate as to what the customary opinion practice will become with respect to use of those technologies. No doubt customary practice will develop in due course as to the diligence of opinion givers rendering due authorization opinions in transactions where "emerging technologies" are employed in authorizing a business transaction. Until then, opinion givers rendering a "duly authorized" opinion for a Company that follows the procedures permitted by SB 1306 will face special challenges in determining that the Company has satisfied the requirements for doing so.

C. No Violation Opinion

Historically, the "no violation" opinion was referred to as the "no conflict" opinion -- that is, the execution and delivery of the Agreement and the performance by the Company of its obligations thereunder do not "conflict with" the articles, bylaws, agreements, judgments, orders or laws. Due to the imprecise nature of the phrase "conflict with," a practice has developed to use the concepts of "violation," "breach" or "default" instead, because such concepts are more precise and understandable. A typical "no violation" opinion reads as follows:

The execution and delivery of the Agreement and the performance by the Company of its obligations under the Agreement do not (i) violate the Company's articles or bylaws, (ii) constitute a default under or [material] breach of any agreement identified on Schedule 1, (iii) violate any judgment, order or decree of any court or arbitrator identified on Schedule 2, or (iv) violate any U.S. federal or California law, rule or regulation that in our experience is typically applicable to transactions of the nature contemplated by the Agreement or generally applicable to companies engaged in the same line of business as the Company [, which violation in the case of clause (iv) would materially and adversely affect the Company].

As a general rule, the "no violation" opinion is expressed in a single paragraph. This Report, however, separates each of the subparts of the opinion and discusses them separately. This section of the Report also discusses other related opinions that are sometimes requested.

The qualification in clause (iv) of the above "no violation" opinion, "that in our experience is typically applicable to transactions of the nature contemplated by the Agreement or generally applicable to companies engaged in the same line of business as the Company," is, as a matter of customary practice, implicit and need not be stated. If the opinion giver wishes to state the qualification, the qualification is typically included in the forepart of the opinion letter in the discussion of the law covered by the opinion letter.158

The bracketed portion of clause (iv) of the above "no violation" opinion, relating to the material adverse effect on the Company, is controversial. Many opinion recipients and their counsel do not accept this qualification. The exception places the opinion giver in the position of determining an essentially business, rather than legal, conclusion of what is material to the Company. However, it is included in the sample "no violation" opinion above because many opinion givers now include it, as a matter of course, in their opinions. Whether the practice will become widespread is a matter of speculation.

1. No Violation -- Articles and Bylaws

The execution and delivery of the Agreement and the performance by the Company of its obligations under the Agreement do not (i) violate the Company's articles or bylaws ....

a. What it means

The "no violation" opinion with respect to the Company's articles and bylaws is intended to provide the opinion recipient with the comfort that neither the execution and delivery by the Company of the Agreement nor the performance by the Company of the terms of the Agreement, including future obligations, will violate its articles or bylaws. The opinion means that, as of the date of the opinion, the agreement of the Company to perform future obligations does not violate the articles or bylaws and that the mere passage of time would not result in a violation of the articles or bylaws by the Company if it performs those obligations under the Agreement. This opinion is largely duplicative of the "corporate power" opinion, due authorization opinion and related aspects of the remedies opinion; in general, those opinions could not be given if the execution, delivery or performance of the Agreement would violate the articles or bylaws. Nonetheless, a practice has developed to provide this opinion separately. Often, the form of opinion requested contains language that the terms of the Agreement "do not conflict with" the articles or bylaws. Although the 1989 Report contemplated the use of that language, the phrase "conflict with" is imprecise. The Committee thus believes that the better practice is not to use that terminology.

b. What sort of information lawyers customarily rely upon to deliver this opinion

A review and understanding of the Agreement and the articles and bylaws are required to deliver this opinion. The opinion giver generally obtains a certified copy of the articles from the Secretary of State of the applicable state and a copy of the bylaws certified by an appropriate officer of the Company.

c. What the opinion does not cover

The "no violation" opinion is not an opinion that no adverse consequences will result from the Company's entering into and performing its obligations under the Agreement. When the opinion covers performance of the Agreement, the opinion does not address whether (i) the Company's future performance of those obligations will satisfy all conditions in the Agreement, (ii) facts will exist at a future time that could make the Company's future performance of those obligations a violation of the articles or bylaws, or (iii) a change in the law could make the Company's future performance of its obligations a violation of the articles or bylaws.

d. Other major opinion reports

TriBar Report: The TriBar Report states that the practice of drafting the opinion to cover these charter documents is well established despite the fact the opinion adds nothing to other opinions commonly given and concludes that, while some members of the TriBar Opinion Committee believe the opinion should be eliminated to avoid redundancy, either approach is acceptable.159 The Committee concurs.

2. No Violation -- Material Agreements

The execution and delivery of the Agreement by the Company and the performance by the Company of its obligations under the Agreement do not ... (ii) constitute a default under or [material] breach of any agreement identified on Schedule 1 ....

a. What it means

The "no violation" opinion with respect to the Material Agreements is intended to provide the opinion recipient with the comfort that neither the execution and delivery by the Company of the Agreement nor the performance by the Company of the terms of the Agreement, including future obligations, breaches or constitutes a default under identified Material Agreements of the Company. The opinion means that, as of the date of the opinion, the agreement of the Company to perform future obligations does not breach or constitute a material default of the Material Agreements and that the mere passage of time would not result in such a breach or default if the Company performed those obligations under the Agreement.

Some opinion recipients may request that the opinion be drafted to cover agreements to which the Company is a party and also agreements to which it is otherwise subject. This broader opinion would extend the coverage of the opinion to agreements that the Company did not affirmatively execute but to which it may have become subject, for example a collective bargaining agreement assumed by operation of law by the Company as a result of an acquisition. This raises troublesome diligence problems. The Committee is of the view that this broader opinion should be resisted by the opinion giver.

b. What sort of information lawyers customarily rely upon to deliver this opinion

Typically, a list of the agreements covered by the opinion (referred to in this Report as "Schedule 1") is prepared by the Company in consultation with the opinion recipient. Where Schedule 1 has not been prepared in consultation with or approved by the opinion recipient, the opinion preparers often will obtain an officers' certificate identifying the agreements listed on Schedule 1 as agreements material to the Company. A review and understanding of the Agreement and the listed agreements are required to determine whether a breach or default has occurred.160

c. Assumptions and exceptions

The opinion giver may consider including the following assumption in the forepart of the opinion letter:

With regard to our opinion in paragraph is Blank line for inserting response below concerning defaults under and [material] breaches of any agreement identified in Schedule 1, we have relied solely upon: (i) a list supplied to us by the Company of material agreements to which the Company is a party, or by which it is bound, a copy of which is attached hereto as Schedule 1 (the "Material Agreements"); and (ii) an examination of the Material Agreements in the form provided to us by the Company. We have made no further investigation.161 With regard to the Material Agreements governed by laws other than those of the State of California, we have assumed that they would be interpreted in accordance with their plain meaning.162

Some opinion givers seek to include a controversial qualification to this opinion that limits coverage to violations that have a material adverse effect on the Company. The qualification presents unique problems for the "no violation" opinion relating to Material Agreements and thus is rarely accepted. One purpose of the opinion is to confirm that the provisions of the Agreement between the Company and the opinion recipient do not interfere with another party's contractual relationship with the Company pursuant to one or more Material Agreements. That interference could potentially lead to claims by that other party against the opinion recipient (e.g., a claim alleging tortious interference with a contractual relationship). A qualification to the opinion regarding whether such a violation has a material adverse effect on the Company defeats the purpose of the opinion since the opinion giver could exclude tortious interference claims arising out of non-material agreements about which the opinion recipient could be subjected to significant liability. Among other things, a potential claim of that nature, while not having a material adverse effect on the Company, could still frustrate the purposes of the parties in entering into the Agreement or otherwise have an adverse effect on the opinion recipient.

d. What the opinion does not cover

As previously noted, the "no violation" opinion is not an opinion that no adverse consequences will result from the Company's entering into and performing its obligations under the Agreement. When the opinion is drafted to cover performance, the opinion does not address whether the Company's future performance of those obligations will satisfy all conditions in the Agreement, or whether facts will exist in the future that could make the Company's future performance of those obligations a violation of the Material Agreements.

e. Other major opinion reports

TriBar Report: The TriBar Report states that one commonly used approach is to limit the "no violation -- material agreements" opinion to the contracts listed in an exhibit to the Agreement, in a filing by the Company with the SEC, or in an attachment to the opinion. The TriBar Report further indicates that, since agreements covered by the no violation opinion may be governed by the law of jurisdictions not covered in the opinion letter, the opinion giver may assume, without stating in the opinion letter, that those agreements would be interpreted in accordance with their plain meaning unless the opinion giver identifies a problem, in which case the opinion giver may wish to obtain an opinion from local counsel.163

3. No Violation -- Court Orders

The execution and delivery of the Agreement and the performance by the Company of its obligations under the Agreement do not ... (iii) violate any judgment, order or decree of any court or arbitrator identified on Schedule 2 ....

a. What it means

The "no violation" opinion with respect to judgments, orders or decrees is intended to provide the opinion recipient with the comfort that neither the execution and delivery by the Company of the Agreement nor the performance by the Company of the terms of the Agreement, including future obligations, violates any of the identified judgments, orders or decrees of a court or arbitrator. By customary usage, the opinion means that, as of the date of the opinion, the agreement to perform those future obligations by the Company does not violate the judgments, orders or decrees of any court or arbitrator identified on a list (referred to in this Report as "Schedule 2"), and that the mere passage of time would not result in a violation of those identified judgments, orders or decrees by the Company if it performs its obligations under the Agreement. The 1989 Report utilized language in the opinion that covered judgments, orders or decrees of any court or arbitrator, known to the opinion giver, to which "the Company is a party or is subject." Current practice is not to use the language "or is subject" because it extends coverage of the opinion to proceedings that are applicable to the Company but in which it has not been joined as a named party (e.g., an industry-wide court order), of which the opinion giver may not be aware.

b. What sort of information lawyers customarily rely upon to deliver this opinion

As with Schedule 1 for Material Agreements, Schedule 2 is prepared by the Company in consultation with the opinion recipient. Where Schedule 2 is not prepared in consultation with or approved by the opinion recipient, the opinion preparers often will obtain an officers' certificate identifying the judgments, orders and decrees of courts or arbitrators listed on Schedule 2 as material to the Company. A review of the Agreement and any identified judgments, orders and decrees is required to determine if there is a violation. Many opinion givers conduct a poll of lawyers of the firm working on the transaction to determine whether any additional judgments, orders or decrees should be added to Schedule 2.164 A search of court or administrative agency records is not customarily conducted for the purpose of rendering this opinion.

c. Assumptions and exceptions

If the opinion giver limits its review of judgments, orders, and decrees to those listed on Schedule 2, as suggested above, then the opinion giver may consider including the following limitation in the forepart of the opinion letter:

With regard to our opinion in paragraph is Blank line for inserting response below concerning violations of any judgment, order or decree of any court or arbitrator identified on Schedule 2, we have relied solely upon an examination of the judgments, orders and decrees listed on Schedule 2 in the form provided to us by the Company. We have made no further investigation.

d. What the opinion does not cover

As previously noted, the "no violation" opinion is not an opinion that no adverse consequences will result from the Company's entering into and performing its obligations under the Agreement. When the opinion covers performance, the opinion does not address whether the Company's future performance of those obligations will satisfy all conditions in the Agreement, or whether facts will exist at a future time that would make the Company's future performance of those obligations a violation of the identified judgments, orders or decrees.165

e. Other major opinion reports

TriBar Report: The TriBar Report states that a commonly used approach is to list court orders covered by the opinion. An opinion recipient will sometimes request that the opinion be drafted to cover court orders in proceedings to which the Company is a party and orders to which the Company is otherwise subject. This broader opinion would extend coverage of the opinion to proceedings in which the Company has not been joined as a named party, such as ex parte proceedings or industry-wide court orders. The TriBar Report indicates that the expansion of the opinion in this manner can provide troublesome diligence problems for the opinion giver since such court orders may, if not listed on Schedule 2, be unknown to the opinion giver or even to the Company, and the opinion giver should consider the implications. The Committee agrees, and is of the view that the broader opinion should be resisted by the opinion giver.

4. No Violation -- Applicable Law

The execution and delivery of the Agreement and the performance by the Company of its obligations under the Agreement do not ... (iv) violate any U.S. federal or California law, rule or regulation that in our experience is typically applicable to agreements similar to the Agreement, transactions of the nature contemplated by the Agreement, or generally applicable to companies engaged in the same line of business as the Company [, which violation in the case of this clause (iv) would materially and adversely affect the Company].

a. What it means

The "no violation" opinion with respect to applicable law provides the opinion recipient with comfort that neither the execution and delivery by the Company of the Agreement nor the performance by the Company of its obligations under the Agreement, including future obligations, results in any fine, penalty or other similar sanction against the Company under any law, rule or regulation typically applicable to the opinion giver's client, the transaction or the Agreement to which the opinion relates. By customary usage, the opinion means that, as of the date of the opinion, the agreement by the Company to perform future obligations under the Agreement would not result in any fine, penalty or other similar sanction against the Company typically applicable to the transaction or the Company and that the mere passage of time would not result in any fine, penalty or other similar sanction against the Company.

A controversial qualification to this opinion is the bracketed language limiting coverage by reference to a material adverse effect on the Company. Many opinion recipients and their counsel do not accept this limitation since the opinion is already limited to the specific transaction to which the opinion relates. Also, the qualification places the opinion giver in the position of determining an essentially business, rather than legal, conclusion as to what is material to the Company. Many opinion givers, however, insert the qualification as a matter of course in this opinion.

b. What sort of information lawyers customarily rely upon to deliver this opinion

A review and understanding of the Agreement is necessary to determine whether the execution, delivery, consummation and performance of the Agreement violates any law, rule or regulation typically applicable to the Agreement, the transaction, or the Company. To give this opinion, the opinion preparers usually have a general understanding of the laws that apply to these types of transactions and to the Company, or, in appropriate cases, conduct legal research or take other reasonable steps to achieve comfort on issues they recognize as relevant to the opinion.166

c. Assumptions and limitations

The opinion giver may consider including the following limitations in the forepart of the opinion letter, if relevant to the transaction:

We are not rendering any opinion as to any statute, rule, regulation, ordinance, decree or decisional law relating to [is Blank line for inserting response.]167

Furthermore, we express no opinion with respect to compliance with any law, rule or regulation that as a matter of customary practice is understood to be covered only when an opinion refers to it expressly. Without limiting the generality of the foregoing[ and except as specifically stated herein,] we express no opinion on local or municipal law, antitrust, environmental, land use, securities, tax, pension, employee benefit, margin, insolvency, fraudulent transfer or investment company laws or regulations, nor compliance by the Company's board of directors or shareholders with their fiduciary duties.168

d. Other major opinion reports

TriBar Report: The TriBar Report indicates that a "no violation" opinion with respect to applicable laws is understood as a matter of customary practice not to cover all laws and that the laws covered will depend on the nature of the transaction and the parties to it and would be subject to what a lawyer exercising customary diligence would reasonably recognize as being applicable. In particular, the opinion is understood to exclude local law, such as city ordinances and county zoning regulations that are adopted by political subdivisions below the state level.169

5. No Violation -- Margin Regulations

The "no violation" opinion with respect to applicable law is also generally understood not to cover compliance with margin regulations. The opinion giver is therefore sometimes asked to give separate opinions on these matters. A typical opinion reads as follows:

The [execution and delivery of the Agreement and the performance by the Company of its obligations under the Agreement] [extensions of credit provided by the Agreement and the use of the proceeds of the {loan}{securities} by the Company {borrowed}{issued} and applied in the manner contemplated by, and subject to the limitations contained in, the Agreement], do not violate Regulation T, U or X of the Board of Governors of the Federal Reserve System.

This opinion is usually given as a separate opinion. The Committee believes that it is appropriate to give these opinions where the transaction presents issues under these laws and regulations and the opinion giver has sufficient familiarity with them. Opinions on compliance with margin regulations are often difficult to render because of the lack of definitive interpretations on many issues (and the opacity of those interpretations that do exist), as well as the fact that much of the learning on the subject of Regulations T, U and X is a matter of "market practice" or "lore."

a. What it means

In debt financing transactions, the lenders or purchasers often request an opinion regarding compliance with margin regulations.170 The margin regulations are a complex set of regulations, adopted by the Federal Reserve Board pursuant to Section 7 of the Securities Exchange Act of 1934 (as amended, the "1934 Act").171 Those regulations govern the extension, maintenance and arranging of credit relating to securities. The opinion means that the agreement of the Company to perform those future obligations does not violate Regulation T, U or X of the Board of Governors of the Federal Reserve System as of the date of the opinion, not when the Company actually performs the obligations.

Regulation T regulates extensions of credit by broker-dealers to purchase, carry or trade in securities, and imposes, among other standards, initial margin, payment, account management and recording rules.172 Regulation U imposes credit restrictions on banks and other lenders (other than broker-dealers) that extend credit for the purpose of buying or carrying margin stock if the credit is secured, directly or indirectly, by margin stock.173 Among other restrictions, it limits any such loan to a percentage (currently 50%) of the current market value of the stock securing it.174 Regulation X extends the margin regulations to margin borrowing by U.S. persons (and foreign persons controlled by or acting on behalf of, or in conjunction with, U.S. persons) from either domestic or foreign lenders.175

b. What sort of information lawyers customarily rely upon to deliver this opinion

The Company may be asked to represent and/or covenant (in the corresponding section of the Agreement) that the proceeds of loans or the issuance of debt securities will not be used to purchase or carry securities or margin stock and that margin stock does not constitute more than 25% of the value of its assets. The Company also may be asked by the lenders to undertake the delivery of a form certifying as to the Company's use of the proceeds (e.g., Form FR U-1 or FR G-1 under Regulation U). If the loan or securities are secured by margin stock, the opinion preparers should obtain an officers' certificate or other information as to the market value of the stock.

c. Assumptions and exceptions

In most cases, these opinions assume the accuracy of the Company's representations referred to in the preceding paragraph, but are without other exceptions. Since the analysis can often be very fact-intensive in complicated transactions, the opinion giver may choose to state some of the key facts or assumptions on which the analysis for the particular opinion is based.

Extensions of credit by broker-dealers are covered by Regulation T, not Regulation U. Regulation T is more restrictive and more complex than Regulation U, and, therefore, if a broker-dealer is the lender, a more detailed analysis will be required. Accordingly, the opinion giver may consider including an express assumption that the lender (or subsequent transferee) is not a broker-dealer required to be registered under the 1934 Act.

6. Investment Company Act Issues

The "no violation" opinion is also generally understood not to cover issues under the Investment Company Act of 1940 (as amended, the "1940 Act").176 Opinion givers are therefore sometimes asked to give separate opinions on these matters. A typical opinion reads as follows:

The Company is not, and following application of the proceeds of the [loan][securities] will not be, required to register as an "investment company" under the Investment Company Act of 1940.

The Committee believes that this opinion is appropriate only where the transaction presents issues under the 1940 Act and the opinion giver has sufficient familiarity with that Act and regulations issued under it by the SEC.

a. What it means

In financing transactions in which a large percentage of the Company's assets are or will be securities,177 lenders or purchasers often request an opinion regarding compliance with the 1940 Act.178 The opinion is limited to determining whether the Company is "required to register" under the 1940 Act. The 1940 Act is enforced primarily by the SEC. If an investment company fails to register under the 1940 Act, the failure can have devastating consequences, since unregistered investment companies that are not exempt from registration may not offer or sell any securities, purchase any securities or engage in any business in interstate commerce.179

Investment companies are generally those engaged primarily in the business of investing, reinvesting or trading in securities or owning investment securities having a value exceeding a certain percentage of their total assets. 180 However, the 1940 Act contains a number of exemptions from the definition of "investment company" and from the registration requirements applicable to investment companies on which companies often rely. These include, most commonly, the exception for issuers whose outstanding securities (other than short-term paper) are beneficially owned by not more than 100 persons and that are not making, and do not presently propose to make, a public offering of their securities;181 and issuers that have no more than certain percentages of their assets and net income derived from securities other than government and certain other securities.182

Investment companies that are not required to register are not subject to the same limitations on their activities, and therefore an opinion that a company "is not an investment company" is not as meaningful and often is not reques ted.

In some cases, an opinion giver may be asked for an opinion that the Company is not "controlled" by an "investment company" within the meaning of the 1940 Act. That request, and the corresponding delivery of the opinion by an opinion giver, is only appropriate when the actions of the control party have an impact on the transaction that is sufficient to justify the potential time and resources necessary to (1) analyze who may control the Company (i.e., significant shareholders) and (2) verify that each party who may control the Company is not an investment company.

b. What sort of information lawyers customarily rely upon to deliver this opinion

This opinion often involves complex factual and legal analysis. The opinion giver should consider whether it has sufficient familiarity with the 1940 Act, regulations issued under it by the SEC and related issues. The Company may be asked to represent and/or covenant (in the corresponding section of the Agreement) that the proceeds of the loans or the issuance of securities will not be used in a manner that would cause it to be classified an investment company under the 1940 Act. Opinion givers often request that a financial officer of the Company certify as to the percentage of assets of the Company that consist of, and the percentage of the net income of the Company that is derived from, securities, or the number of its shareholders.

c. Assumptions and exceptions

In most cases, this opinion is given without including any specific assumptions or exceptions, and without disclosing the particular exemption on which the opinion is based. However, the analysis can often be fact intensive and the opinion giver may therefore choose to state some of the key facts or assumptions on which the opinion is based or provide to the recipient applicable financial officer certificates. In rare cases where the issue is not free from doubt, the opinion giver may provide a reasoned opinion explaining the factual and legal analysis for the opinion.

7. All Filings and Consents Obtained in Connection with the Transaction

All consents, approvals, authorizations or orders of, and filings, registrations and qualifications on the part of the Company with, any United States federal or California regulatory authority or governmental body required for [consummation of the transaction/issuance of securities] have been made or obtained [, except {in the case of the issuance of securities in a non-public transaction}, (a) for the filing of a Form D pursuant to Securities and Exchange Commission Regulation D, (b) for the filing of the notice required to be filed under {California Corporations Code § is Blank line for inserting response} and (c) {other Blue Sky filings}].

a. What it means

This opinion is intended to give the opinion recipient comfort that the Company has obtained all necessary consents, approvals and orders and has made all filings and obtained all registrations and qualifications required on its part or for it to consummate the transaction. To a considerable extent this opinion overlaps the "no violation" opinion as it relates to applicable laws183 and the remedies opinion, if given.184

b. What sort of information lawyers customarily rely upon to deliver this opinion

A review and understanding of the Agreement is necessary to determine whether any governmental or regulatory consents are necessary to consummate the transaction. To give this opinion, the opinion preparers usually have, or at least consult with someone who has, an understanding of the laws requiring consents that generally apply to the type of transaction involved and, in appropriate cases, conduct legal research or takes other reasonable steps to identify required consents.185

c. Assumptions and limitations

The opinion giver may consider including the express limitation, concerning securities filings, in the forepart of the opinion letter, specified in the discussion of the "No Violation -- Applicable Law" opinion above (Part V, Section C.4 of this Report).

d. Other major opinion reports

TriBar Report: The TriBar Report indicates that the purpose of the opinion is to provide information to the opinion recipient regarding the Company's compliance with legal and regulatory requirements applicable to the Company's participation in the transaction. The TriBar Report states that, as a matter of customary usage, the opinion is understood not to cover local law requirements.186

8. Special Note on Absence of Litigation

Opinion givers are often asked to confirm the existence or non-existence of pending or threatened litigation against the Company.187 While many lawyers refer to this as the "no litigation" opinion, it actually is a factual statement as to the state of knowledge of the opinion giver regarding these matters and does not constitute an "opinion." The typical "no litigation" confirmation reads as follows:188

To our knowledge, there is no action or proceeding pending or threatened in writing189 against the Company [except as set forth in {Schedule 2 of this opinion} {Section is Blank line for inserting response of the Agreement} {the certificate of an officer of the Company}].

a. What it means

The use of the phrase "to our knowledge" is generally defined in the forepart of the opinion letter by describing the scope of diligence that the opinion giver conducted.190 As previously noted, the opinion giver should not be a primary source for the facts and the opinion recipient should rely primarily on the Company's representations.191

If an opinion giver is requested to distinguish between "material" and non-material litigation, the opinion giver is placed in the position of evaluating the probable outcome of certain litigation, the range of loss if the client is unsuccessful, and whether that loss would be material to the financial condition or operations of the Company. Absent special circumstances, the Committee believes it would be consistent with opinion practice for an opinion giver to decline a request to deliver this statement, due to the uncertainties of litigation.192

An opinion giver ordinarily should not provide an evaluation of the possible outcome of pending or threatened legal proceedings. In instances in which an evaluation of pending litigation is given, it should conform to what the opinion giver would give in response to an audit inquiry request complying with the ABA's Statement of Policy Regarding Lawyers' Responses to Auditors' Requests for Information.193

b. What sort of information lawyers customarily rely upon to deliver this opinion

Opinion preparers usually obtain an officers' certificate and poll the lawyers in the firm working on the transaction to determine whether these lawyers know of such litigation or threats of litigation. Some opinion preparers may also run a check of the records of the firm to ascertain whether the firm is acting as counsel of record for the Company in any litigation matter.194 The definition of "our knowledge" should be stated in the opinion to make clear whose knowledge is covered.

By customary practice, a review of court records is not necessary to provide this factual confirmation.

c. Assumptions and exceptions

Some opinion givers include the following assumption in the forepart of the opinion letter:

With regard to our statement in paragraph is Blank line for inserting response below concerning any action or proceeding that is pending or threatened in writing, we have made an inquiry of the lawyers within this firm who have represented the Company in this transaction[,][ and] relied upon a certificate executed by an officer of the Company covering such matters[, and checked the records of this firm to ascertain that we are not acting as counsel of record for the Company in any such matter].

General matters relating to "knowledge" opinions are addressed in Part IV, Section D.3 of this Report. A specific variant on the type of elaboration that could be used in the context of litigation and used in lieu of the assumption stated above would read as follows:

Where we provide a statement "to our knowledge" or concerning an item "known to us" or otherwise refer to our knowledge, it is based solely upon (i) an inquiry of lawyers within this firm who have represented the Company in this transaction, (ii) receipt of a certificate executed by an officer of the Company covering such matters, and (iii) such other investigation, if any, that we specifically set forth herein.

d. What the confirmation does not cover

This confirmation does not extend to the merits of any litigation or the records or the roster of any court, tribunal or other forum or authority.

e. Other major opinion reports

TriBar Report: The TriBar Report concludes that the "no litigation" opinion (or "confirmation" because of its factual nature) is designed to elicit information regarding the existence of litigation rather than the merits of a particular litigation matter. Thus, the presence or absence of the phrase "to our knowledge" does not change the meaning of the opinion, which is that the opinion giver does not know that the list of litigation referred to in the opinion letter is incomplete or unreliable. The TriBar Report notes that this confirmation could be eliminated with no real loss to the opinion recipient since it is based largely on information provided by the Company.195 The Committee concurs.

D. Capital Stock

California lawyers often give opinions on their clients' capital stock, particularly in the context of a transaction involving an issuance or purchase of such capital stock or a merger or acquisition transaction. The more commonly rendered opinions on capital stock are addressed in this Section.

1. Authorized Capital

The California Corporations Code does not include references to "capital stock," "common stock" or "preferred stock." Instead, Corporations Code Section 400 authorizes corporations to issue "one or more classes or series of shares . . . with such rights, preferences, privileges and restrictions as are stated or authorized in its articles." The term "shares" is defined in Corporations Code Section 184 to mean "the units into which the proprietary interests in a corporation are divided in the articles." Corporations Code Section 159 further specifies that "common shares" are "shares which have no preference over any other shares with respect to distribution of assets on liquidation or with respect to payment of dividends." Corporations Code Section 176 specifies that "preferred shares" means "shares other than common shares." Corporations Code Section 402.5 sets forth specific provisions as preferences that may be granted to "preferred shares." For purposes of convenience, the term "capital stock" is used in this Report to refer to the collective set of all securities that a corporation is authorized to issue and that evidence an ownership interest in it.

In that context, a typical opinion as to the authorized capital stock for a California corporation reads as follows:

The Company's authorized capitalization consists of (a) 15,000,000 common shares, of which 5,000,000 shares are issued and outstanding,196 and (b) 5,000,000 preferred shares, of which (i) 3,000,000 shares have been designated as Series A Preferred Stock, all of which are issued and outstanding, and (ii) 2,000,000 shares have been designated as Series B Preferred Stock, none of which have been issued.197

This form of opinion assumes that the opinion giver is passing upon all of the Company's capital stock. Alternatively, the party requesting the opinion will sometimes request an opinion covering only the status of the shares to be issued in the transaction. If the Company has engaged a third-party transfer agent, the party requesting the opinion may also be satisfied by a certificate of the transfer agent regarding the number of outstanding shares.

The Committee notes that a lawyer's opinion on the number of outstanding shares is not a legal opinion. Independent auditors report on a corporation's balance sheet, which includes disclosure of the number of shares of each class outstanding on the date of the balance sheet. When stock opinions are rendered, sound arguments suggest that counterparties in the subject transaction should be satisfied with a certificate provided by an officer of the Company or its transfer agent on this point. An opinion on the number of shares outstanding would be based solely on an examination of the Company's stock book or on a certificate from the Company's transfer agent. The opinion giver has no duty to inquire further. A transfer agent is a person whose function is to monitor, and maintain records regarding, the issuance and transfer of securities and has as one of its purposes preventing unauthorized issuances of shares.198

2. Duly Authorized

The "duly authorized" opinion is typically combined with the "validly issued" and "fully paid and nonassessable" opinions, and reads as follows:

The shares have been duly authorized and validly issued and are fully paid and nonassessable.

The parts of this opinion are closely interrelated and are addressed in this and in the following two subsections. The "duly authorized" part relates to creation of the shares under the articles and bylaws rather than their issuance.199 The steps required to approve a particular share issuance are covered by the "validly issued" part of this opinion.200

a. What the duly authorized opinion means

The "duly authorized" opinion means that the Company had the corporate power under its articles and bylaws to issue the shares of capital stock as of the time they were issued. As used in a capitalization opinion, this opinion also indicates that the Company had sufficient authorized shares of each class to cover all outstanding shares as of the time of the issuance of the shares.

As the TriBar Report notes, the "duly authorized" opinion also covers whether the applicable state corporation law permits shares having the characteristics of the shares of capital stock that are the subject of the opinion.201 Accordingly, the "duly authorized" opinion should not be given as to capital stock if the terms of that stock are prohibited by the GCL.202

b. What sort of information lawyers customarily rely upon to deliver this opinion

California corporations have the statutory power under Corporations Code Section 207 to issue their own shares.203 However, this power is subject to:

  • limitations contained in the articles;
  • compliance with other provisions of the GCL; and
  • compliance with any other applicable laws (not including, for this purpose, securities laws).

California law requires that the articles specify the total number of shares that the corporation is authorized to issue.204 It is generally recognized that the corporation may not issue shares in excess of the amounts authorized.205 In rendering this opinion, the authorized number of shares of capital stock can be verified by an examination of the articles, as amended, certified by the Secretary of State. When the Company has two or more classes or series of capital stock, the opinion giver must determine whether a sufficient number of shares was authorized on a class-by-class or series-by-series basis prior to rendering the opinion.

In rendering this opinion, the number of outstanding shares is customarily ascertained solely from a review of the stock record book of the Company206 or from a certificate of its transfer agent (if the Company has one). Lost, destroyed, stolen or wrongfully-taken share certificates can occasionally create a problem with respect to an opinion concerning the number of outstanding shares. In such cases, the Company or its transfer agent will ordinarily require an indemnity bond before issuing a replacement certificate.207 If a replacement certificate is issued and a "protected purchaser"208 of the original certificate presents it for transfer, the Company must register the original certificate unless registration would result in an over-issue. This could result in a larger number of outstanding shares than is authorized. However, the Company is not required to issue more shares than it has the power to issue.209 If previously issued shares have been cancelled, the opinion giver must determine whether, under the articles, the cancellation resulted in a reduction in the number of authorized shares.210

c. What the opinion does not cover

The "duly authorized" opinion does not address whether the authorization of the shares complies with agreements by which the Company is bound or complies with any law other than the GCL. Compliance with other state and federal laws relating to the issuance of capital stock should be addressed, if at all, in a separate legal opinion delivered to the recipient.

The "duly authorized" opinion is also generally understood not to address the adequacy of any proxy solicitation or other disclosure document or compliance with the proxy rules of the SEC, since the opinion is understood to relate only to authorization of the issuance of shares as governed by the GCL. However, opinion givers should be mindful of the need to avoid giving misleading opinions.211

The "duly authorized" opinion does not address issues related to the compliance by the Company's directors with their fiduciary duties. Some California lawyers expressly qualify their "duly authorized" opinions by stating that they do not address compliance with fiduciary duties. That qualification is not necessary because it is customarily understood that compliance with fiduciary duties is not covered by an opinion unless specifically addressed. However, there may be circumstances where a California lawyer may include a statement in the legal opinion expressly stating that it does not address such compliance.212

3. Validly Issued

a. What it means

Although the GCL provides for the "issuance" of shares, it does not define that term.213 The "validly issued" opinion confirms that issuance of the shares complied with the requirements set forth in the articles and bylaws (including any preemptive rights contained in the articles) and with the requirements of the GCL (including corporate actions such as board approval and, if necessary, shareholder approval) applicable to the specific share issuance addressed in the opinion. In addition, the opinion confirms that the shares were issued for proper and sufficient consideration. The "validly issued" opinion cannot properly be given if the shares were issued without proper board or shareholder approval, in violation of any shareholders' preemptive rights set forth in the articles, or in excess of the number of authorized shares.214 While this Report maintains a distinction between the "due authorization" and "validly issued" opinions, an opinion giver should not render a "validly issued" opinion if the opinion giver could not also give the "duly authorized" opinion (or appropriately rely on an assumption or an opinion of other counsel as to due authorization), whether or not requested to do so.

b. What sort of information lawyers customarily rely upon to deliver this opinion

The opinion giver must consider whether the Company is required to receive consideration for the issuance of shares.215 If shares are required to be issued for consideration, then the validity of the issuance will depend upon whether the type of consideration received is permitted by applicable law.216 Opinion givers often address issues of consideration when rendering the "validly issued" opinion by phrasing the opinion to state that "when the shares are issued in accordance with the Agreement," they will be validly issued, fully paid and nonassessible.

Shareholders of California corporations often grant the board of directors broad authority to authorize the issuance of new shares of capital stock using "blank check preferred" stock. In other cases, the board of directors will delegate to a committee of the board the authority to approve the issuance of shares (e.g., delegation to a compensation committee authorized to grant options to purchase shares pursuant to a stock option plan). For shares issued pursuant to such delegated authority, opinion givers confirm that the delegation and issuance were permissible under the articles and bylaws and the GCL.

The opinion giver should also be alert to any instance in which shares have been or will be issued for consideration other than cash.217 Corporations Code Section 409(e) requires that the Company's board of directors "state by resolution its determination of the fair value to the corporation in monetary terms" of any such consideration.218 The GCL does not, however, require any specific amount of consideration for the issuance of shares. Thus, the failure of the board of directors to make that determination should not affect the validity of the issuance, but rather the fulfillment of the directors' fiduciary duty.219

There is no substantive difference between an opinion that shares are "validly issued" and an opinion that shares are "legally issued." This question arises in the context of an Exhibit 5 opinion included as part of a registration statement under the 1933 Act. Schedule A (Part 29) of the 1933 Act and Item 601(b)(5)(i) of Regulation S-K under the 1933 Act require the issuer to file an opinion of counsel as to the legality of the securities to be issued. 220 Item 601(b)(5)(i) of Regulation S-K states that "the opinion [the Exhibit 5 opinion] must indicate whether the securities will, when sold, be legally issued, fully paid and non-assessable . . . ."

Notwithstanding the foregoing express requirement, many such opinions state that the securities are "validly issued" in lieu of stating that they are "legally issued." As noted by the Task Force on Securities Law Opinions of the ABA Section of Business Law, in its 2004 Report on Legal Opinions in SEC Filings, "in Exhibit 5 opinions, many lawyers use the more customary formulation that the securities have been 'duly authorized and, [when sold in accordance with the provisions of the applicable purchase agreement], will be validly issued, fully paid and nonassessable.' "221

c. What the opinion does not cover

As previously noted, an opinion that shares have been "validly issued" cannot be given if their issuance violates preemptive rights set forth in the Company's articles.222 However, the "valid issuance" opinion should not be understood to address whether the issuance resulted in a breach or default under any contract to which the Company is a party, such as a shareholders agreement.223 Even in the event of such a breach or default, the opinion giver may still render an unqualified opinion regarding the valid issuance of shares. A recipient desiring an opinion on whether shares were, or will be, issued in violation of contractual rights should request an opinion specifically addressing that question.

Furthermore, opinions on the valid issuance of the Company's capital stock do not address issues related to the fiduciary duties of directors: that is, where the board action authorizing the issuance is challenged as a violation of the board's fiduciary duties.224 For example, the sale of shares to insiders in a "down round" financing might be challenged as the product of an improper corporate decision-making process or otherwise as unfair to the Company or its shareholders. Issues related to whether the Company's board of directors complied with its fiduciary duties hinge on questions of fact that generally make the subject unsuitable for coverage in a legal opinion. Opining on fact-intensive matters necessarily means that the opinion giver will have to rely upon elaborate assumptions that substantially impair the value of the opinion and can be very costly.225

Finally, a "valid issuance" opinion on a California corporation is based on compliance with the GCL and does not address any other laws of the State of California or any other jurisdiction. Thus, the opinion does not address compliance with securities laws.226 Securities law issues are properly addressed in separate opinions as discussed elsewhere in this Report.227

4. Fully Paid and Nonassessable

a. What it means

Shares are "fully paid" and "nonassessable" if the Company has received the consideration for the shares specified by the board. In support of the "fully paid" opinion, opinion preparers will typically confirm (i) that the consideration paid for the shares was in the amount and form specified by the board of directors when it authorized the issuance, and (ii) that the consideration specified was received prior to or contemporaneously with the issuance of the shares. Certificates of the Company's chief financial officer or other qualified officer can be used to establish the type, amount and timing of consideration received for the shares.228

If the Company has received the consideration for the shares specified by the board, then the Company cannot require additional payment beyond the consideration agreed to be paid for the shares. Moreover, shares are not "assessable" unless the articles expressly confer that authority on the board of directors or unless otherwise provided by a statute separate from the GCL.229

The assessability of shares differs from the right to collect the consideration agreed to be paid by a purchaser for the shares. Assessability means the right of the Company pursuant to provisions of the articles to require shareholders to make additional capital contributions to the Company after the initial issuance of, and payment for, the shares.

b. What sort of information lawyers customarily rely upon to deliver this opinion

To confirm "full payment" an opinion giver generally obtains an officers' certificate to the effect that the Company has received the consideration called for by the directors in approving the issuance of the shares. There may, however, be some uncertainty with respect to the "fully paid" status of shares issued by certain California corporations at less than their par value. Under Corporations Code Section 110 in effect prior to January 1, 1977, the value of consideration received by a corporation for the issuance of shares having par value was required to be at least equal to the par value, with exceptions that are not applicable to this discussion. The GCL, which became effective on that date as part of the Corporations Code, has eliminated any reference to par value (except where required by other statutes or regulations). 230 Corporations existing prior to the effectiveness of the GCL are not required to amend their articles to eliminate par value, and the effect of the issuance of par value shares by these corporations for a lesser value is not clear if they have not so amended their articles.

The GCL has also eliminated uncertainties with respect to the "fully paid" status of stock dividends. Prior to 1977, the Corporations Code specified that dividends payable in shares of a corporation (stock dividends) could be declared only out of earned surplus, paid-in surplus or surplus arising from reduction of stated capital. In addition, the accounting treatment of the respective accounts of a corporation was specified by former Section 1506. If the required transfer between accounts was not made, a question also arose as to whether sufficient consideration had been given for the shares issued pursuant to the stock dividend.

The GCL changed this treatment by subjecting "distributions to shareholders" to the provisions of its Chapter 5. 231 Corporations Code Section 166 expressly excludes stock dividends from the definition of "distribution to shareholders."232 Corporations Code Section 114 requires that generally accepted accounting principles be used in the preparation and determination of financial statements and accounting items, and those principles may require transfers from retained earnings.233 Nevertheless, those principles do not affect the legality or validity of the issuance, and the absence of retained earnings or the failure to make transfers in accordance with generally accepted accounting principles no longer raises the possibility that shares issued as stock dividends are not fully paid.234

c. Assumptions and exceptions

In some transactions, the shares are to be issued, and the consideration received, after the date of the opinion. In those instances, the "fully paid and non-assessable" opinion may properly be qualified to indicate that the shares will not be "fully paid" until the consideration required by the underlying transaction documents has been received by the issuer.235

d. What the opinion does not cover

The "fully paid and non-assessable" opinion only addresses those matters specifically described above. It does not address the possibility that shareholders will be subject to other liabilities in connection with their ownership of the shares. Other liabilities could include those imposed upon them as controlling shareholders, for the receipt of unlawful dividends, or as a result of piercing the corporate veil.

5. Reservation of Shares

a. What it means

This opinion confirms that the Company has taken action necessary to reserve the number of shares specified for future issuance upon conversion of convertible securities or the exercise of options or warrants. The GCL does not, however, provide any legal effect to the "reservation" of shares. Accordingly, the opinion is almost entirely factual (i.e., establishing the existence of resolutions "reserving" shares for future issuance). Because reservations have no legal effect under the GCL, lawyers generally resist giving this opinion as it is potentially misleading and opinion recipients ordinarily are satisfied by a representation by the Company or by an officer's certificate on this point. An alternative is for the opinion to address only the question of whether the board of directors of the Company has duly adopted a resolution "reserving" such shares and whether that resolution remains in force.

b. What sort of information lawyers customarily rely upon to deliver this opinion

An opinion giver typically examines the Company's minute book to confirm that appropriate resolutions have been adopted by its board of directors, and that those resolutions have not been subsequently amended, modified or repealed. This is usually confirmed by an officers' certificate certifying to the adoption and continued effectiveness of the relevant resolutions.236

c. Assumptions and exceptions

An opinion giver that delivers this opinion may in appropriate situations qualify its opinion to make clear that anti-dilution rights applicable to convertible securities, options or warrants could result in the reservation of a number of shares for issuance upon conversion or exercise that exceeds the number of shares authorized by the Company. Under Division 8 of the California Uniform Commercial Code, the holder of a convertible security, option, or warrant cannot compel an overissue, notwithstanding the board's action "reserving" shares.237

d. What the opinion does not cover

A "reservation of shares" opinion does not address the power of the Company to subsequently authorize by action of its board of directors the issuance for some other corporate purpose of shares previously reserved for issuance upon the conversion of convertible securities or the exercise of options or warrants. Thus, purchasers of securities with conversion or exercise rights need to address the issue in other ways, for example through use of a covenant of the Company to maintain at all times a sufficient number of authorized but unissued shares to allow for the conversion or exercise.

6. Outstanding Equity Securities

Underwriters of a Company's initial public offering, and stock exchanges in connection with the initial listing of a Company's equity securities, will typically request an opinion that not only the shares to be issued in the proposed transaction but also all outstanding equity securities of the Company have been duly authorized and validly issued and are fully paid and nonassessable. These opinions, particularly for a client that has been in existence for a long time, require extensive factual inquiry and heavy reliance upon officers' certificates, and therefore consideration must be given to whether the benefit is justified in terms of the cost and time involved.238

E. Selected Blue Sky and Federal Securities Law Issues

1. General Considerations

The "due authorization" and "valid issuance" opinions do not address compliance with disclosure, registration, qualification and other requirements of state or federal securities laws.239 Those requirements raise complex and fact-intensive issues and, when addressed at all, customarily are addressed in a separate paragraph or letter containing carefully qualified terms.

The context in which securities law opinions are given can differ from those of other third-party closing opinions. The securities laws themselves are intended to protect investors and provide them with an array of remedies that may be unavailable in other contexts. Thus, the opinion giver of a securities law opinion may be subject to claims and liability as a primary violator or as an aider and abettor (in SEC disciplinary or enforcement actions) under federal securities laws.240 Opinion givers in California may be requested to render opinions with respect to the CSL, the 1933 Act and the 1934 Act. Other portions of this Report address issues that arise for opinion givers with respect to certain other federal securities laws241 and with respect to other state securities laws.242 This Report is not intended to be a guide to the substantive requirements of federal and state law exemptions. For a discussion of the substantive requirements under the CSL and certain matters of the CSL related to federal securities laws, see the Committee's Guide to California Securities Law Practice, 2003 edition.243

The Committee notes that, because the purpose of the federal securities laws is to protect investors, the SEC has taken the position that an opinion giver fails to meet applicable standards of conduct if it fails to conduct an inquiry into the underlying facts.244 Moreover, courts have held that the mere presence of disclaimers of investigation by the opinion giver will not eliminate triable issues of fact concerning whether the opinion is misleading or whether the recipient's reliance was not justified in the circumstances.245

For opinions rendered in securities transactions, the opinion giver thus must consider carefully the unique liability context in which such opinions are given and take care that they are not rendered in circumstances that are misleading even though the opinions may be technically correct. Lawyers contemplating serving as an opinion giver in federal securities law matters should also familiarize themselves with rules adopted by the SEC in the aftermath of several highly visible financial reporting scandals in 2001 and following adoption of the Sarbanes-Oxley Act of 2002.246

This section addresses securities law opinions in private offerings of securities. It does not address other legal opinions issued by securities counsel such as opinions to underwriters in registered public offerings of securities and opinions that are required by the SEC and the national securities exchanges.247

2. Exemption from Federal Registration or State Law Qualification -- Private Offerings

Based in part upon the representations made by the Company and the purchasers in the Agreement, the offer[,] [and] sale [and issuance] of the [Shares] in conformity with the terms of the Agreement and the issuance of the common stock, if any, to be issued upon conversion thereof, do not require registration under Section 5 of the Securities Act of 1933, as amended [, or qualification under the California Corporate Securities Law of 1968, as amended].248

a. What it means

Issuers and purchasers of unregistered securities will at times request an opinion on the need to comply with the registration requirements of Section 5 under the 1933 Act or the qualification requirements of the CSL.249

Many opinion givers rely on the "safe harbors" provided by Regulation D under the 1933 Act for compliance with Section 4(2) or Section 3(b) of the 1933 Act.250 The particular statutory exemption relied upon is not customarily stated in the opinion. If Regulation D is the basis for the federal exemption opinion, neither that reliance nor the particular rule relied upon is customarily stated in the opinion.251

b. What sort of information lawyers customarily rely upon to deliver this opinion

As with any legal opinion, the opinion preparer must competently and diligently consider what facts are relevant to the opinion. With regard to each factual matter supporting a securities law opinion, the opinion preparers must inquire of the Company and possibly others (e.g., the placement agent) as to the relevant facts and both receive and assess the answers. Further inquiry is involved if the facts are incomplete in any material respect, are suspect or inconsistent or otherwise open to question. The extent of this inquiry will depend in each case upon the circumstances. For example, the inquiry would be less intensive when the opinion giver has had an ongoing relationship with the Company than in instances in which the Company has recently engaged the opinion giver. Similarly, the inquiry might be less intensive in instances in which the opinion preparer's inquiries are answered fully than in instances in which there appears to be a reluctance to disclose information. If the opinion preparers conclude that further inquiry would not provide them sufficient confidence as to all the relevant facts, they should refuse to give the opinion. If facts do not appear to be incomplete, suspect or otherwise open to question, the opinion giver may properly assume that the facts as related to it by the Company and confirmed by reviewing appropriate documents are accurate.252

The Committee notes that the SEC has, for reasons of public policy, stated that the responsibilities of opinion givers in assessing the factual bases for opinions that facilitate unregistered sales of securities are more demanding than in negotiated transactions between institutional or sophisticated parties.253 However, the Committee believes that the function of lawyers in securities transactions should be no different than that in other transactions. Thus, a legal opinion should not be viewed as a guaranty of the factual accuracy of representations made by the Company either in support of the opinion or directly to the opinion recipients.254 The Committee notes that, despite their legal training, lawyers may not have the background or expertise to evaluate a variety of factual matters such as financial, accounting, technical, scientific, statistical or engineering information. Thus, the Committee believes that the proper function of the opinion is to provide the opinion giver's professional legal judgment based on the facts that have been represented to it -- not to guarantee the accuracy of those facts.255

i. Information Concerning the Purchasers

Reliance on the purchaser's representations regarding its financial status may be sufficient, for example, in a negotiated private placement of securities to a limited number of institutions or other "accredited" investors. 256 In other situations (e.g., in non-institutional syndicated offerings or offerings in which some purchasers are not accredited), the opinion preparers also might want to review signed questionnaires returned by the purchaser and purchaser representative or factual certificates that elicit information such as the purchaser's relationship to the Company, its sophistication in financial or business transactions, and education, work and investment experience.

If the purchaser is relying on a professional adviser, the opinion giver may consider obtaining a factual certificate from that adviser to ensure that the person serving in that role satisfies the requirements of the applicable exemption. The opinion giver also may obtain additional factual information after reviewing the certificate of each purchaser and, if applicable, the certificate of each purchaser's professional adviser. Subject to the obligation of due care, an opinion giver normally limits its opinion to reliance on the accuracy of the factual representations made by the purchasers, professional advisors, if any, and the Company, as issuer.

In determining compliance with a limitation on the number of purchasers under a particular exemption, the opinion preparers often review, and generally rely upon, subscription agreements and each purchaser's factual certificate with respect to the beneficial ownership of the securities being purchased and information that may cause the Company to exclude the purchaser for purposes of the purchaser limitation.

ii. Information Concerning the Means of Solicitation

Except for certain offerings under Rule 504,257 Regulation D requires that neither the issuer nor any person acting on its behalf offer or sell the securities by any form of general solicitation.258

In a negotiated private placement of securities to a limited number of institutions or other "accredited" investors, opinion givers customarily rely on representations of both the Company and the placement agent, if any, and each of the purchasers as to the absence of a general solicitation. In a non-institutional syndicated offering or an exempt offering to a large number of purchasers, the general solicitation issue is more difficult and usually is a mixed question of fact and law.

Lawyers rendering opinions in these types of offerings normally require factual certificates from appropriate persons involved in the offering process (e.g., placement agents and officers of the Company who are responsible for the solicitation). As with any other factual determination, the opinion preparer may also want to obtain additional factual information following review of these factual certificates. The opinion giver has a responsibility to exercise independent judgment in determining whether the Company has a reasonable basis for determining that the requirements pertaining to the method of solicitation are satisfied.

iii. Information Requirements

If the Company sells securities under Rule 505 or Rule 506 under Regulation D to a purchaser who is not an accredited investor, it must furnish to the purchaser specified information that is the same kind of information as is required in a registration statement filed under the 1933 Act or, under certain circumstances, information required by Regulation A. Compliance with this requirement necessarily requires a legal analysis of the rules pertaining to registered or Regulation A offerings. As a result, a request for a legal opinion in this context is not cost-effective in many circumstances.259

Occasionally, the opinion giver is asked to provide negative assurance regarding the adequacy of disclosure documents furnished to investors by the Company. Although negative assurance is customarily provided to underwriters in registered offerings, requesting negative assurance in an exempt offering is often not appropriate.260 Requests for negative assurance statements should be limited to registered offerings and other transactions in which an offering document comparable to a statutory prospectus under the 1933 Act is being prepared and delivered and the process for preparing the offering document is comparable to that followed in a registered offering.261

iv. Integration

To be certain that the exemption from federal registration or California qualification is available in a particular transaction, the opinion giver must determine that the transaction is not part of other offers or sales of securities that, taken together, would not qualify for the exemption.262 These requirements often involve mixed questions of law and fact. The opinion giver will typically rely upon officers' certificates and may review the Company's minute book and stock book263 in an effort to substantiate the factual basis for the determination of whether there are other transactions that may have to be "integrated" with the current offering.

c. Assumptions and exceptions

Given the heavily fact-based conditions of Regulation D, opinions based on it customarily are highly qualified and rely expressly on assumptions that various representations and statements are true and accurate.

Opinions need not be qualified with respect to events that may occur after the delivery of the opinion. The opinion giver need not expressly assume the absence of future offerings that might be integrated with the exempt transaction, the satisfaction of post-closing filing requirements or future compliance with applicable law, since it is generally understood that the opinion does not address events occurring after its delivery.

Scope limitations to the opinion may also be appropriate. In a negotiated private placement of securities to a limited number of institutions or other "accredited" investors, the opinion recipient may agree that the opinion giver may assume certain facts in support of the opinion.264 When the opinion giver varies customary practice by limiting the scope of the investigation conducted, this limitation should be stated explicitly in the opinion and the factual investigation actually conducted by the opinion giver should be described.265

3. Exemption from Federal Registration or State Law Qualification -- Resales

The typical "Rule 144 opinion" reads as follows:

Based on the foregoing facts, and subject to the assumptions set forth above, it is our opinion that the sale of the securities was exempt from the registration requirements of the 1933 Act by virtue of the exemption provided by [Section 4(1) thereof and] Rule 144 thereunder.

a. What it means

Issuers commonly place stop transfer orders with their transfer agents and cause legends to be placed on stock certificates for shares that have been sold in reliance upon the Section 4(2) ("private offering") exemption. Transfer agents are generally considered to have a duty to use reasonable diligence to prevent the shares from being transferred in violation of the 1933 Act. As a result, transfer agents typically request opinions of counsel on transfers of shares that initially were sold in a private offering. Rule 144 provides a safe harbor for certain of these transfers. The Rule 144 opinion allows non-affiliates to resell restricted securities without registration, and affiliates to sell restricted and non--restricted shares without registration.

b. What sort of information lawyers customarily rely upon to deliver this opinion

i. Affiliate Status

Rule 144 defines an affiliate of an issuer as a person that directly, or indirectly through one or more intermediaries, controls, or is controlled by, or is under common control with, the issuer.266 This is a subjective "facts and circumstances" test. As with opinions relating to the private offering exemption, the opinion should be understood in the context in which it is being rendered.267 In the absence of reasons to make further inquiry, the opinion giver customarily relies on a factual certificate of the selling shareholder.

ii. Holding Period

For restricted securities to be sold under Rule 144, Rule 144(d) requires that at least one year must have elapsed since the later of the acquisition of the securities from the issuer or from an affiliate of the issuer. In determining whether this requirement has been satisfied, the opinion preparers usually obtain information as to the circumstances of the ownership of the shares in question, such as information as to when the shares were first issued by the Company and which exemption from registration was relied upon by the Company. The opinion preparers may also seek to ascertain what transfers, if any, of those shares were made prior to their acquisition by the selling shareholder to determine whether any events subsequent to the initial issuance of the shares might raise doubt about compliance with the holding period. In addition to general inquiry of the selling shareholder, opinion preparers customarily rely on a review of stock certificates (for legends, dates, etc.) for the shares in question and the selling shareholder's representation letter provided to its broker.

iii. Current Public Information

Rule 144(c) requires that current public information with respect to an issuer must be available at the time of sale. If the Company files periodic reports with the SEC, the opinion giver may rely on the Company's representation on the front cover of its most recent report, which contains a box indicating whether it has filed all reports required during the preceding 12 months for purposes of determining whether it is in compliance with the current public information requirement of Rule 144, unless the opinion giver otherwise has reason to believe that the representation is incorrect.268

If the Company is not subject to the periodic reporting requirements, it may still satisfy the current public information requirement if it disseminates to all interested persons on an ongoing and continuous basis certain information specified in Rule 15c2-11(a)(5) under the 1934 Act.269 The opinion preparers must perform sufficient investigation, however, to have adequate assurances as to both the quality of the information made publicly available by the Company and its widespread dissemination on an ongoing basis. As discussed above, a conclusory statement on an important issue without any supporting analysis is ordinarily not acceptable in these circumstances.

iv. Volume Limitation

Rule 144(e) limits the amount of securities that can be sold by a seller during any three-month period to the greater of one percent of the outstanding securities of the same class or the average weekly trading volume during the four calendar weeks preceding the sale. Opinion givers customarily rely upon the selling shareholder's representation letter (as well as the Form 144, if required) to determine the amount of shares intended to be sold and compliance with the volume limitation. Many opinion preparers also review reports of trading volume, which are widely available in newspapers or on the Internet, and/or review the Company's most recent periodic report to determine the number of shares outstanding.

v. Manner of Sale

Rule 144(f) and (g) require that the shares be sold either through a broker or directly to a market maker. No solicitation of orders is permitted by either the broker or the selling shareholder under the Rule. Opinion givers customarily rely upon the broker's and selling shareholder's representation letters in this regard.

c. Assumptions and exceptions

As with opinions relating to the private offering exemption, the opinion letter usually identifies the sources of the information on which the opinion giver is relying. Many opinion givers will not provide a Rule 144 opinion until the sale has taken place, thereby permitting the opinion giver to confirm the facts relevant to the sale prior to delivering the opinion. When a "Rule 144 opinion" is delivered prior to the date of sale, opinion givers customarily assume that between the date of the opinion and the date of sale the Company will continue to satisfy the current public information requirements, that the selling shareholder and broker will comply with their prior representations, that the selling shareholder will not make sales after the date of the opinion that cause the selling shareholder to exceed the volume limits of Rule 144 and that the Form 144, if required, is properly prepared and filed.

Endnotes

138 The corresponding portion of the 1989 Report referred to sources from which parts of it were adapted. The Committee has taken a fresh look at the opinions covered in this Section and the current practices applicable to them. In that context, the Committee does not believe it necessary to make specific reference to those sources, while noting that current practice no doubt has been shaped by them. Back

139 See also Part IV, Section D.5 of this Report and Part VI, Section B of this Report.Back

140 CAL. CORP. CODE § 209. Back

141 TriBar Report § 6.1.2. Back

142 TriBar Report § 6.1.3. Back

143 See 1989 Report at 27; TriBar Report § 6.1.6; ABA Guidelines § 4.1. Back

144 See ABA Guidlines & § 4.1:

An opinion giver should not be asked for an opinion that the opinion giver's client is qualified to do business as a foreign corporation in all jurisdictions in which its property or activities require qualification or in which the failure to qualify would have a material adverse effect on the client. Analysis of the "doing business" requirements of each jurisdiction in which the client has property or conducts activities would require an extensive factual inquiry and a review of the law of jurisdictions as to which the opinion giver cannot reasonably be expected to have expertise. This analysis rarely would be cost-justified. Back

145 CAL. CORP. CODE § 206 (Section 206 applies to corporations formed prior to the effective date (January 1, 1977) of the GCL). See CAL. CORP. CODE § 2303. Back

146 CAL. CORP. CODE § 206. Back

147 Id. § 207. Back

148 See GLAZER & FITZGIBBON § 8.2. Back

149 Id. Back

150 CAL. CORP. CODE § 206. Back

151 See GLAZER & FITZGIBBON § 8.2. Back

152 See CAL. CORP. CODE § 314; Part IV, Section D.3 of this Report ("Officers Certificates'). Back

153 See CAL. CORP. CODE § 314 (providing that a copy of a resolution certified by "a person purporting to be" the secretary or an assistant secretary "is prima facie evidence of the adoption of such ... resolution or of the due holding of such meeting and of the matters stated therein ... "). Back

154 See GLAZER & FITZGIBBON § 9.3. Back

155 See Part IV, Section B.6 of this Report. Back

156 See 2004 Cal. Stats. ch. 254. Back

157 For analyses of Section 2115 of the Corporations Code, see 3 BALLANTINE & STERLING, CALIFORNIA CORPORATION LAWS § 393 (R. Bradbury Clark, editor) (4th ed. 2004) [hereinafter BALLANTINE & STERLING]; 2 Harold Marsh, Jr., R. Roy Finkle and Larry W. Sonsini, MARSH'S CALIFORNIA CORPORATION LAW § 26.04 (4th ed. 2004) [hereinafter MARSH'S CALIFORNIA CORPORATION LAW].

In VantagePoint Venture Partners 1996 v. Examen, Inc., 871 A.2d 1108 (Del. Sup. Ct. 2005), the Delaware Supreme Court ruled that under the internal affairs doctrine and the federal Constitution, the voting rights of the shareholders of a Delaware corporation are governed by Delaware law and not by California law, notwithstanding the possible application of Section 2115 to a Delaware corporation headquartered in California. Back

158 See Part IV, Section D.3 and Part V, Section C.4 of this Report. Back

159 TriBar Report § 6.5.1. Back

160 See the discussion of customary diligence in the examination of documents in Part IV, Section D.3 of this Report. Back

161 The Committee does not believe that the disclaimer "[w]e have made no further investigation" is necessary because it is generally understood. Some lawyers include exceptions and assumptions regarding defaults under Material Agreements such as:

With regard to our opinion in paragraph is Blank line for inserting response below with respect to defaults under and [material] breaches of any Material Agreement, we express no opinion as to: (i) financial covenants or similar provisions therein requiring financial calculations or determinations to ascertain compliance; (ii) provisions therein relating to the occurrence of a "material adverse event" or words of similar import; or (iii) any statement or writing that may constitute parol evidence bearing on interpretation or construction of any Material Agreement.

The authors of Glazer & FitzGibbon, citing several bar association reports, observe that a "no breach or default" opinion covers covenants that depend for their application on financial computations and that opinion preparers have the responsibility of identifying such covenants in the Material Agreements that might bear on the transaction, but that opinion preparers customarily obtain and base the opinion, without independent verification, on a certificate from an appropriate officer of the Company or the Company's independent accountants that the transaction will not violate the financial covenants and similar provisions specified in the certificate. GLAZER & FITZGIBBON § 16.3.5.

In this Report as originally published in May 2005, the Committee expressed the view that a "no violation - material agreements" opinion, absent a disclaimer or an explicit assumption of compliance by the Company with financial covenants in Material Agreements, covers the financial covenants of Material Agreements, but that opinion preparers customarily rely upon a certificate of an appropriate officer of the Company or the Company's independent accountants, without independent verification, regarding compliance with the relevant financial covenants in Material Agreements. After further deliberation by the Committee and consultation with the Opinions Committee of the Business Law Section, the Committee has revised the view that this opinion covers financial covenants in the absence of a disclaimer or explicit assumption of compliance. The Committee believes that opinion recipients do not expect the scope of a "no violation - material agreements" opinion to include compliance with the financial covenants in Material Agreements, because determining whether or not a company is in compliance with financial covenants is beyond the professional competence of lawyers. See ABA Guidelines ¶ 1.4. The Committee notes, however, that not all commentators are in agreement on this point (see, e.g., the discussion of Glazer & Fitzgibbon above in this note). To avoid any ambiguity over the scope of this opinion, some lawyers who do not include financial covenants within the scope of this opinion include a disclaimer in their opinion similar to clause (i) of the textbox included in this note. Back

162 Historically, opinion givers have assumed that Material Agreements "are governed by the substantive law of California." The assumption stated in the text has gained increasing acceptance, and the Committee endorses it as the preferred assumption. See TriBar Report § 6.5.6. The TriBar Report states that where the agreements reviewed are governed by the law of jurisdictions not specified for coverage in the opinion letter, the opinion preparers are entitled to assume, without so stating in the opinion letter, that those contracts would be interpreted "in accordance with their plain meaning" (unless the opinion preparers identify a possible problem, in which event they may want to obtain an opinion from local counsel). Back

163 See TriBar Report §§ 6.5.5-6.5.6. Back

164 These additional procedures correspond to those used in the context of the separate but related confirmation as to the absence of litigation, in which case they are generally less discretionary. See Part V, Section C.8 of this Report. Back

165 See generally TriBar Report § 6.5.4. Back

166 See Part IV, Section D.3 of this Report; Appendix 8 ("Application of Customary Practice to the Remedies Opinion") to Remedies Report, Section III(B). Back

167 This list would commonly include laws that are reasonably related to the opinions given in the opinion letter (and not excluded by the following sentence in the box) but as to which the opinion giver disclaims coverage. If the recipient insists on receiving an opinion on such laws, then special counsel may have to be engaged. Back

168 See Part IV, Section D.3 of this Report, notes 114 and 115, and Part V, Section B.2.c of this Report (discussion of the exclusion for fiduciary duties). See also TriBar Report § 6.6. Limitations on the law covered are by custom understood to apply whether or not stated. See ABA Principles § II(D) (". . . some laws (such as securities, tax, and insolvency laws) are understood as a matter of customary practice to be covered only when an opinion refers to them expressly."). For further discussion, see Appendix 10 ("Report of the Exceptions Subcommittee) to the Remedies Report at "Further Notes." Nevertheless, because counsel may disagree on the list of laws excluded from the laws covered by this opinion, opinion givers often list the laws not addressed by this opinion. Care should be exercised in listing the laws not addressed by this opinion, given the inference that may be drawn by the opinion recipient that laws not listed as excluded but relevant to the opinion are included. Back

169 TriBar Report § 6.6.

The Accord (¶ 16) indicates that this opinion is understood to mean that the execution and delivery by the Company of, and the performance by the Company of its obligations under, the Agreement are not prohibited by (and do not subject the Company to any fines, penalties or similar sanctions under) any statutory regulation of the opining jurisdiction that a lawyer in the opining jurisdiction exercising customary professional diligence would reasonably recognize as being directly applicable to the Company, the transaction or both. Back

170 For a thorough discussion on this topic, see 22 Charles Rechlin, SECURITIES CREDIT REGULATION (2d ed. 2001). Back

171 15 U.S.C. §§ 78a - 78mm. Back

172 See Credit By Brokers and Dealers (Regulation T), 12 C.F.R. § 220. Back

173 "Margin stock" is defined in Regulation U, Credit By Banks and Persons Other Than Brokers or Dealers for the Purpose of Purchasing or Carrying Margin Stock, 12 C.F.R. § 221.2. Back

174 If the loan is also secured by collateral other than margin stock, the lender may make a good-faith determination that the other collateral has sufficient good-faith loan value to make up the difference between the regulatory loan value of the margin stock and the amount of the credit extended for a purpose loan. A loan may be deemed to be indirectly secured by margin stock if, after giving effect to the transaction, more than 25% of the assets of the borrower consist of margin stock and the loan agreement contains restrictions on the borrower's ability to sell or pledge that stock. See 12 C.F.R. §§ 221 and 222.2. Back

175 See Borrowers of Securities Credit (Regulation X), 12 C.F.R. § 224. Back

176 Investment Company Act of 1940, 15 U.S.C. §§ 80a-1 to 80a-64. Back

177 It is important for the opinion giver to bear in mind that items occasionally carried on the Company's financial statements as cash or cash equivalents may qualify as a "security" for purposes of this threshold determination regarding applicability of the 1940 Act. Back

178 For a thorough discussion of this topic, see Tamar Frankel & Ann Taylor Schwing, THE REGULATION OF MONEY MANAGERS: MUTUAL FUNDS AND ADVISERS (2d ed. 2001). Back

179 See 15 U.S.C. § 80a-7(a). Back

180 See id. § 80a-3(a). Back

181 See id. § 80a-3(c)(1). Back

182 See Investment Company Act Rule 3a-1, 17 C.F.R. § 270.3a-1. Back

183 See Part V, Section C.4 of this Report. Back

184 Tribar Report § 6.7 ("[a]s such, [the approvals and filings opinion] overlaps to a considerable extent the remedies and no violation of law opinions.") See generally Remedies Report. Back

185 See Appendix 8 ("Application of Customary Practice to the Remedies Opinion") to Remedies Report at Section III(B). Back

186 TriBar Report § 6.7. Back

187 This confirmation is sometimes given with a listing of the types of matters covered but more frequently with use of general terms such as "litigation," "action" or "proceeding" or combinations of them. As customarily used in connection with this confirmation, those terms are understood to cover adversarial proceedings, both public and private, before an adjudicatory body with authority to reach a ruling on the questions presented that, subject to normal review procedures, is binding on the parties as a matter of law or pursuant to private agreement. See GLAZER & FITZGIBBON § 17.2.1. Such confirmation would not normally be understood to cover investigations unless a specific investigation amounts to a "threatened" proceeding. Id. Back

188 Given the size and scope of many clients' businesses, even a "no litigation" confirmation as suggested in the text box may impose unreasonable demands upon the opinion giver. An alternative formulation suggested to the Committee, which the Committee recommends for clients whose businesses are substantial and broad in scope, reads as follows:

We are not representing the Company in any action or proceeding that is pending, or overtly threatened in writing by a potential claimant, that seeks to enjoin the transaction or challenge the validity of the Agreement or the performance by the Company of its obligations thereunder.

Note that this alternative formulation does not contain a knowledge qualifier. Back

189 Of course, as Ball Hunt teaches, such a formulation of the confirmation would be inappropriate if the opinion preparers have knowledge of a threatened claim or legal action that is not in writing but is material to the client. See Part III, Section B of this Report, and notes 45 and 264. Back

190 See Part IV, Section D.4 of this Report for a general discussion of "knowledge" considerations, including the importance, especially in larger firms, of qualifying the knowledge definition to a defined group of lawyers of the opinion giver. Back

191 See Part IV, Section B.3 of this Report and Part IV, Section D.3 of this Report. Back

192 See 1989 Report at 39. Back

193 See note 124. See also Accord § 17.5; ABA Guidelines § 4.7. Back

194 Some opinion givers expand the inquiry to all lawyers working on matters involving the Company. This practice may not be practical, however, for a longstanding client, which may have had many lawyers working on matters for the Company over the course of many years. Without limiting the time frame of the poll, each lawyer who worked on any matter for the client, no matter how trivial or how long ago, would have to be consulted before the confirmation could be given, provided the lawyer was still at the firm. Back

195 TriBar Report § 6.8.

The Accord (¶ 17) provides that the "no litigation" confirmation can be given but it should be limited to litigation that is actually pending or that has been threatened in writing. It further provides that such a confirmation should be based on information generated from a client certificate and a review of the opinion giver's litigation docket. The opinion giver need not review court records and need not canvass "nonparticipating" lawyers from the firm. The Accord suggests that it should be stated as a "confirmation" rather than an opinion. An evaluation of litigation normally should not be requested. The Committee concurs, although it notes that reviews of an opinion giver's "litigation docket" are not always conducted. Back

196 Since January 1, 1977, with the enactment of the GCL, when a California corporation reacquires its own shares, they no longer become treasury shares. Instead, the shares are automatically restored to the status of authorized but unissued shares, unless the articles prohibit their reissuance. CAL. CORP. CODE § 510(a). Shares that were treasury shares on December 31, 1976, remain treasury shares unless retired. With respect to corporations formed on or after January 1, 1977, therefore, it may be superfluous to refer to shares as being "issued and outstanding" since all outstanding shares must therefore, have been issued. Back

197 See Part IV, Section B.1 of this Report. Although an opinion as to the validity of the issuance of all outstanding capital stock is not cost-effective in most situations, such an opinion would read as follows:

The issued and outstanding common shares and preferred shares of the Company have been duly authorized and validly issued and are fully paid and nonassessable.

See the discussion of this opinion in Section D.6 below, "Outstanding Equity Securities." Back

198 See 1934 Act, § 3(a)(25), 15 U.S.C. § 78c(a)(25). Back

199 As noted previously, under California law the term "articles" includes the articles of incorporation, amendments thereto, amended articles, restated articles, certificate of incorporation and certificates of determination. CAL. CORP. CODE § 154. Back

200 There is some potential confusion between the two parts as a particular share issuance (covered by the "validly issued" part) is normally described as having been "authorized" by the board of directors. Back

201 TriBar Report § 6.2.1. The TriBar Report also notes, in its discussion of the "validly issued" opinion, that that opinion likewise could not be given if the share issuance violated "applicable state corporation law . . ." TriBar Report § 6.2.2. Back

202 See, e.g., CAL. CORP. CODE § 402(c) (prohibiting the issuance of redeemable common shares other than as permitted by that subdivision). Back

203 CAL. CORP. CODE § 207(d). Back

204 Id. § 202(d). If the corporation is authorized to issue more than one class of shares, or if any class of shares is to have two or more series, the articles must specify (among other things) the total number of shares of each class and the total number shares of each series that the corporation is authorized to issue or that the board of directors is authorized to fix the number of shares of any such series. Id. § 202(e). Back

205 See U.C.C. § 8-210 cmt.1. Where the shareholders previously approved an issuance of options or securities convertible into shares of the corporation's capital stock, however, Corporations Code Section 405 provides that the board of directors of the issuer may, without further shareholder approval, amend the articles to effect an increase in authorized shares to accommodate the exercise or conversion rights of the holders of such options or convertible securities. CAL. CORP. CODE § 405(b). Back

206 Also referred to as a "stock ledger" or a "stock transfer book." Back

207 See CAL. COM. CODE § 8405; CAL. CORP. CODE § 419 (setting forth the responsibility of an issuer in the case of lost, destroyed or wrongfully taken security certificates). Back

208 A "protected purchaser" is a purchaser who (i) gives value, (ii) does not have notice of any adverse claim to the security; and (iii) obtains control of the security. CAL. COM. CODE § 8303. All three elements must exist at one time for a purchaser to be a "protected purchaser." Comment 2. "Purchaser" is defined in CAL. COM. CODE § 1201; "adverse claim" is defined in CAL. COM. CODE § 8102(a)(1); and "control" is defined in CAL. COM. CODE § 106. Back

209 CAL. COM. CODE § 8405(b). In such cases, the corporation's liability is governed by CAL. COM. CODE § 8210. Back

210 See CAL. CORP. CODE § 510(b). Back

211 In this regard, federal courts have broad equitable powers to remedy violations of the 1934 Act and the rules and regulations of the SEC. See, e.g., Mills v. Electric Auto-Lite Co., 396 U.S. 375 (1970). Back

212 An alternate formulation of this is that "the validly issued opinion rests on an assumption, customarily unstated ..., that fiduciary requirements relating to the issuance have been satisfied." TriBar Report § 6.2.2. See also GLAZER & FITZGIBBON § 10.2.2. Whatever approach is taken, the Committee is of the view that the result is the same: opinion givers customarily do not address compliance with fiduciary duties in a "duly authorized" or "validly issued" opinion. Back

213 The Committee notes that the issuance of shares is generally understood to refer to the act or contract by which a person becomes a shareholder of a corporation. Back

214 The articles may include a provision requiring the approval of the shareholders or the approval of the outstanding shares for any corporate action. CAL. CORP. CODE § 204(a)(9). Additionally, shares may be issued in transactions, such as mergers, that require shareholder approval. Back

215 Shares may be issued without the receipt of consideration in the case of, among other things, stock dividends or splits. Id. § 409(a)(2). Back

216 See id. § 409 (defining the various types of legal consideration for the issuance of shares by California corporations). Back

217 CAL. CORP. CODE § 409(e). Back

218 Id. Back

219 The Committee recommends, however, that any such failure be corrected or the omission noted in the opinion.

See also Crowder v. Electro-Kinetics Corp., 228 Ga. 610, 187 S.E.2d 249 (1972). In Crowder, the Georgia Supreme Court, interpreting a statute very similar to Section 409(e) of the GCL, held that the failure of a board to make a determination by resolution of the value of consideration received for the issuance of shares of stock does not make the issuance null and void and subject to cancellation. Back

220 Regulation S-K, 17 C.F.R. § 601(b)(5)(i). Back

221 SEC Filings Report, 59 BUS. LAW. at 1507 (footnote omitted). Back

222 Unless otherwise provided in the articles, the board may issue shares, options or securities having conversion or option rights without first offering them to the shareholders of any class. CAL. CORP. CODE § 406. The GCL permits the inclusion in the articles of a provision granting preemptive rights. Id. § 204(a)(2). As a result, the only diligence necessary to give this opinion is an examination of the articles to confirm that they do not contain a preemptive rights provision. Back

223 See the discussion of the "no violation" opinion in relation to Material Agreements, Part V, Section C.2 of this Report. Back

224 See Part V, Section D.2.c of this Report. The valid issuance opinion does not, therefore, address whether the issuance of shares violates the shareholders' so-called "quasi-preemptive" rights. For background, see 1 BALLANTINE & STERLING § 127.03[8][b]; 1 MARSH'S CALIFORNIA CORPORATION LAW § 7.12. Back

225 In this context, counsel should be sensitive to the liability an opinion giver may have for an opinion that constitutes a fraudulent misrepresentation, see Part III, Section B of this Report, and the potential liability apart from the opinion letter as a result of involvement in a transaction under the anti-fraud rules of federal or state securities laws. See TriBar Report § 1.4 ("non-opinion liability"). Back

226 See Part III, Section B of this Report. Back

227 See Part V, Section E of this Report and Part VI, Section B.2 of this Report. Back

228 The Company's statement of shareholders' equity will include the dollar amount of the consideration received for the issuance of shares. For a discussion of the opinion giver's responsibility for the factual basis of this and other opinions, see Part IV, Section D.3 of this Report.

Under the GCL a corporation may issue "partly paid" shares. See CAL. CORP. CODE § 409(d). Back

229 CAL. CORP. CODE § 423(a). The Committee is unaware of any California statute in effect on the date of this Report other than the GCL that grants powers to assess the shares of capital stock of California corporations. Because an opinion addressing whether shares are "fully paid and nonassessable" addresses only the GCL, the effect of other statutes, unless they are expressly covered, are not relevant to this opinion. Back

230 CAL. CORP. CODE § 205. Back

231 Id. §§ 500-511. Corporations Code Section 188 defines a stock split as a "pro rata division, otherwise than by a share dividend, of all the outstanding shares." Id. § 188. Thus, stock splits are not subject to the provisions of Chapter 5 of the GCL. Back

232 Id. § 166. Back

233 Id. § 114. In the aftermath of several highly visible financial reporting scandals in 2001 and following in the path of the Sarbanes-Oxley Act of 2002, the Financial Accounting Standards Board ("FASB") initiated several modifications to "generally accepted accounting principles" affecting the consolidation, for financial reporting purposes, of otherwise separate entities. Recently, the FASB has modified its standards for reporting the cost of stock options. These developments serve as a reminder that "generally accepted accounting principles" are not fixed and can have an impact on law and on opinions rendered with respect to corporate activities and transactions. Back

234 It should be noted that Division 8 of the California Uniform Commercial Code previously provided a legal framework to govern the rights, obligations, and relationships of issuers and others only as to shares evidenced by physical stock certificates. Effective January 1, 1985, the Division was amended also to cover shares for which the issuance, recordation and transfer are accomplished exclusively by registration upon books maintained for the purpose of recording transfers by or on behalf of the issuer and that do not involve the issuance or subsequent transfer of physical certificates (i.e., "uncertificated securities"). At the same time, Corporations Code Section 416 was amended to permit both publicly held and private corporations to adopt a system of issuance, recordation, and transfer of shares using uncertificated securities. This system is normally implemented through an electronic book-entry transfer facility and is utilized primarily by corporations whose securities are publicly traded in national markets. Division 8 was amended again, effective January 1, 1997. This version also has provisions covering uncertificated securities.

The enactment of statutory changes permitting the issuance of uncertificated shares has not altered the legal requirements for authorizing and issuing securities. Shares still must be authorized for issuance in the articles and by proper action by the Company's board of directors, and still must be issued for valid consideration. Accordingly, the lawyer who is requested to provide an opinion with respect to the due authorization, valid issuance and "fully paid" status of uncertificated securities will be required to go through the same analysis as for securities evidenced by physical certificates.

An essential difference in the diligence that must be conducted by the opinion giver concerning the "issuance" of uncertificated securities is that the review of the stock records of the Company will often involve a review of computerized records held by the Company's transfer agent and/or receipt of a certificate from the transfer agent certifying to the issuance of the uncertificated shares to the purchaser. Back

235 A typical form for this qualification reads as follows: Back

Upon receipt of the consideration required by the Agreement, the shares will be fully paid and nonassessable.

236 See CAL. CORP. CODE § 314. Back

237 CAL. COM. CODE § 8210. Back

238 See TriBar Report § 6.2.5; ABA Guidelines § 4.2. Back

239 See Part IV, Section D of this Report. Back

240 See, e.g., In re Enron Corp. Sec., Derivative & ERISA Litig., 235 F. Supp. 2d 549, 704-06 (S.D. Tex. 2002) (upholding a claim stated under Section 10(b) of the 1934 Act against a law firm that, inter alia, delivered "true sale" opinions allegedly essential to effect a client's fraudulent transaction while allegedly knowing of the client's ongoing illicit and fraudulent conduct and frequently making public statements about the client's business and financial condition.). The lesson of the Enron litigation is that care must be given when rendering opinions that facilitate securities transactions, not just the risk of rendering securities law opinions per se. There is no aiding and abetting liability for violations of Rule 10b-5 under the 1934 Act. See Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164 (1994). However, California has specific prohibitions and penalties pertaining to securities transactions in the CSL that may be asserted against lawyers. Corporations Code Section 25504 imposes joint and several liability on agents who materially aid persons liable for misrepresentations made in connection with an offer or sale of securities, unless the agents had no knowledge of or reasonable grounds to believe in the existence of the facts by reason of which the liability is alleged to exist. CAL. CORP. CODE § 25504. Section 25504.1 imposes joint and several liability on any person who materially assists in a violation of the qualification or antifraud provisions of the Corporations Code with the intent to deceive or defraud. Id. § 25504.1; Orloff v. Allman, 819 F.2d 904, 907 (9th Cir. 1987) (limiting liability for aiding and abetting a state securities violation limited to cases in which the defendant had an "intent to deceive or defraud"). Back

241 See Part V, Section C.6 of this Report. Back

242 See Part VI, Section B.2 of this Report. Back

243 The version of the Guide current at publication of this Report is identified as the "June 2004 Printing." Back

244 See, e.g., Attorney's Conduct in Issuing an Opinion Letter, Exchange Act Release No. 34-17831, [1981 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 82,874 (June 1, 1981). In the SEC's report under Section 21(a) of the 1934 Act, the SEC declined to institute an enforcement proceeding against a lawyer who rendered an opinion as counsel for the underwriter in a sale of industrial revenue bonds. Although the opinion letter stated that the lawyer had not independently checked or verified most of the material statements in the offering circular, the lawyer (who knew that the issuer had been in operation for a number of years) rendered his opinion letter without questioning the omission of prior years' financial statements, reviewing any documents about the financial status of the issuer, or making inquiry as to the results of operations for prior years. Citing with approval the American Bar Association's Committee on Ethics and Professional Responsibility Formal Opinion 335, see note 252, the SEC stated that when the facts obtained from the client appear incomplete or inconsistent with facts known to the lawyer, and the lawyer is not satisfied as to all the relevant facts, the lawyer should refuse to render an opinion:

The smooth functioning of the securities markets will be subject to serious disruption if the public cannot safely rely on the expertise proffered by lawyers rendering their opinions. Unless lawyers carefully and competently ascertain the relevant facts, and make a reasonable inquiry of their clients to obtain facts not within their personal knowledge, their opinions may facilitate fraudulent transactions in securities. This is so particularly as the investing public looks to the lawyer's opinion as a safeguard against violations of the federal securities laws.

The Committee is unaware of any judicial decision or other SEC enforcement action citing this SEC release. The SEC's position appears consistent with the proposition that counsel cannot rely on factual information from its client, or base its opinions on "assumptions," that it recognizes as untrue. See Kline v. First Western Government Securities, Inc., 24 F.3d 480, 487 (3d Cir. 1994) ("[W]hen a law firm knows or has good reason to know that the factual description of a transaction provided by another is materially different from the actual transaction, it cannot escape liability simply by including in an opinion letter a statement that its opinion is based on provided facts."). Back

245 See e.g., Kline, note 244. Back

246 See 17 CFR Part 205, "Implementation of Standards of Professional Conduct for Attorneys." Back

247 See Part V, Section C.8; Part V, Section D.1; Part V, Section D.2; and Part VII, Section B of this Report. See also Section E.2.b.3 of this Part V and SEC Filings Report. Back

248 This opinion addresses the issuance of preferred shares that are convertible into shares of common stock. Under the CSL, the offer or sale of convertible securities includes the offer of the shares issuable upon conversion of the convertible securities; the conversion of the preferred shares (without the payment of additional consideration) does not constitute an offer or sale of the common shares under the CSL. CAL. CORP. CODE § 25017(e). Under the 1933 Act, issuance of convertible securities also includes the offer of the shares of common stock into which the securities are convertible; the issuance of shares of common stock issuable upon conversion of preferred shares (without the payment of additional consideration) is exempt from registration under Section 3(a)(9) of the 1933 Act because it constitutes a "security exchange by the issuer with its existing securityholders exclusively . . . ." See Charles J. Johnson, Jr. & Joseph McLaughlin, CORPORATE FINANCE AND THE SECURITIES LAWS 875-78 (3d ed. 2004). Back

249 Section 5 of the 1933 Act prohibits the use of the mails or facilities of interstate commerce to sell a security unless a registration statement is in effect covering such security or an exemption from registration is available. 15 U.S.C. § 77e. Exemptions from registration include Section 4(2) of the 1933 Act, for transactions by an issuer not involving a public offering, and Section 3(b) of the 1933 Act, relating to small offerings. 15 U.S.C. §§ 77d, 77c. Back

250 See 17 C.F.R. §§ 230.501-230.508 prelim. n.3. Rule 506 provides a safe harbor for offerings exempt from registration pursuant to Section 4(2). 17 C.F.R. § 230.506. Rules 505 and 504 provide registration exemptions for offerings pursuant to Section 3(b) of the 1933 Act. 15 U.S.C. § 77r; 17 C.F.R. §§ 230.505, 230.504. Back

251 Section 18(b)(4)(D) of the 1933 Act preempts state regulation of transactions that are exempt from registration pursuant to Rule 506. 15 U.S.C. § 77r. Also, exemptions under certain state securities laws, such as the "Uniform Limited Offering Exemption," are predicated upon compliance with a specific 1933 Act exemption. Back

252 See A.B.A. Comm. on Ethics and Prof'l Responsibility, Formal Opinion 335, 60 A.B.A.J. 488 (1974) [hereinafter ABA Formal Opinion 335]. ABA Formal Opinion 335 sets forth guidelines for opinions written as a basis for transactions involving sales of unregistered securities; it does not address opinions written in connection with securities registrations. The essence of ABA Formal Opinion 335 is that a lawyer should make adequate preparation, including inquiry into the relevant facts, consistent with the guidelines. While the lawyer should not accept as true that which he or she should not reasonably believe to be true, the lawyer does not have the responsibility to "audit" the affairs of his or her client or to assume, without reasonable cause, that a client's statement of the facts cannot be relied upon. ABA Formal Opinion 335 has been cited with favor by the SEC. See Exchange Act Release No. 34-17831, notes 4 and 5. Back

253 In 1962, and again in 1971, the SEC addressed the standards of conduct expected of registered broker-dealers in connection with the distribution to the public of substantial blocks of unregistered securities. At that time, the SEC stated that, "if an attorney furnishes an opinion based solely upon hypothetical facts which he has made no effort to verify, and if he knows that his opinion will be relied upon as the basis for a substantial distribution of unregistered securities, a serious question arises as to the propriety of his professional conduct" (citing United States v. Francis Peter Crosby, 294 F.2d 928 (2d Cir. 1961), the SEC noted that the court appeared to have regarded the giving of such opinions as significant evidence supporting a jury finding that a lawyer was guilty as a criminal co-conspirator). See Distribution by Broker-Dealers of Unregistered Securities, Securities Act Release No. 33-4445 (February 2, 1962); Sales of Unregistered Securities by Broker-Dealers, Securities Act Release No. 33-5168 (July 7, 1971). The Committee is unaware of any judicial decision citing Release Nos. 33-4445 or 33-5168. Cf. GLAZER & FITZGIBBON §§ 2.3.2, n.10; 1.3.2 n.11 ("Because of the public policies embodied in the federal securities laws, counsel's responsibility for verifying the factual bases for opinions used to facilitate sales of securities is more demanding under Rule 10b-5 than under the state law standard applicable to opinions (of the type discussed in this book) that are customarily delivered at the closing to third parties in financial transactions."). Back

254 See also Part IV, Section B.3 of this Report. Back

255 See Part II of this Report, particularly note 28 and accompanying text. Back

256 In an offering under Rule 505 or Rule 506, the issuer must reasonably believe there are not more than 35 purchasers who are not "accredited investors." 17 C.F.R. §§ 230.505(b)(2)(ii), 506(b)(2)(i). Additionally, in offerings under Rule 506, the issuer must reasonably believe that each purchaser who is not an accredited investor, alone or with his purchaser representative, satisfies certain financial sophistication requirements. Id. § 230.506(b)(2)(ii).

Similarly, to comply with Section 25102(f) of the Corporations Code, except for excluded purchasers as provided in Section 25102(f)(4) and California Code of Regulations, Section 260.102.12(1), each purchaser must either have a pre-existing business or personal relationship with the issuer or have sufficient business or financial experience alone, or with his or her professional adviser, to be reasonably assumed to have the capacity to protect his or her own interests in connection with the transaction. CAL. CORP. CODE § 25102(f); CAL. CODE REGS. tit. 10, § 260.102.12(d). Back

257 See 17 C.F.R. § 230.504(b)(1). Back

258 In determining whether a "public" solicitation has occurred, the SEC generally has focused on whether the Company (as issuer), or a broker-dealer acting on behalf of it, had a relationship with the offeree that was both "substantive" and "preexisting." The existence of a preexisting, substantive relationship is commonly cited as a means to establish the absence of a "general solicitation." See, e.g., E.F. Hutton & Company, Inc., SEC No-Action Letter (Dec. 3, 1985); Bateman Eichler, Hill Richards, Inc., SEC No-Action Letter, (December 3, 1985). It is not, however, the only means of demonstrating the absence of a "general solicitation." Regulation D; Accredited Investor and Filing Requirements, Securities Act Release No. 33- 6825 [1989 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 84,404, at 80,045 (March 14, 1989). See also Use of Electronic Media, Securities Act Release No. 33-7856 [2000 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 86,304, at 33,374 (Apr. 28, 2000). For a relationship with an offeree to be "substantive," the issuer or the broker-dealer either must be able to determine the financial circumstances or sophistication of the person with whom the relationship exists or the relationship must be of some substance or duration. Preexisting business relationships, while important, are not conclusive in determining whether or not at the time of the offering the potential investor had a preexisting substantive relationship with the issuer or the broker-dealer. See, e.g., Mineral Lands Research and Marketing Corporation, SEC No-Action Letter (Dec. 4, 1985). A relationship with an offeree is not considered "preexisting" unless the relationship was established before the offering commenced or, in case of a broker-dealer participating in an offering, before the broker-dealer's participation in the offering commenced. See IPONET, SEC No-Action Letter (July 23, 1996).

In addition to the general prohibition on advertising, Section 25102(f) imposes a separate "preexisting personal or business relationship" requirement. CAL. CORP. CODE § 25102(f). A relationship of employeremployee, or as a security holder of the issuer, or as a customer of a broker-dealer, investment adviser or other person, does not necessarily involve contacts of a nature that are sufficient to establish a "preexisting personal or business relationship." CAL. CODE REGS. tit. 10, § 260.102.12. Back

259 Regulation D does not prescribe any specific information disclosure requirements for offerings made under Rule 505 or 506 exclusively to accredited investors or for offerings made under Rule 504. Offerings under Rule 504 may require delivery of a disclosure document prescribed by state law. 17 C.F.R. § 230.504(b)(1). Similarly, Section 25102(f) of the Corporations Code does not require specific disclosure in order to satisfy the exemption. Sales of securities under either exemption, however, are subject to the general anti-fraud provisions of the federal and state securities laws. Back

260 See Negative Assurance Report. The purpose of negative assurance is to assist the recipient in establishing a due diligence or similar defense. See also Part IV, Section B.3 of this Report, particularly notes 68-74. That purpose is served when negative assurance is provided to third parties who can avoid liability in securities offerings by establishing such a defense. It is not served by providing negative assurance to ultimate purchasers of securities in contrast to underwriters (or other financial intermediaries). Requests that negative assurance be provided to those persons or to issuers of the securities are inappropriate. Back

261 These transactions include many Rule 144A offerings and some Regulation S offerings. Back

262 17 C.F.R. § 230.502(a); CAL. CODE REGS. tit. 10, § 260.102.12(b). Back

263 See Part V, Section D.1 of this Report. Back

264 Generally, knowledge qualifiers do not limit the customary diligence lawyers undertake to support the opinion, and the meaning of the opinion is the same whether or not the phrase is used. See TriBar Report § 2.6.1 (inclusion of the phrase "to our knowledge" in an opinion does not by itself (i) label the factual material involved as unreliable or (ii) state a limitation on the investigation required by customary diligence). The obligation of the opinion giver to exercise customary diligence in establishing the factual basis for an opinion is implicit in every opinion letter. However, an opinion giver can limit or disclaim that obligation by including in the opinion letter an express statement describing the factual investigation it conducted on a particular point and making clear that no other investigation was conducted. Often, this is done simply by adding the phrase "without investigation." Thus, if the opinion giver intends the phrase "to our knowledge" to excuse it from performing customary factual diligence, the opinion should clearly disclose that limitation. ABA Guidelines § 3.4. Cf. Ad Hoc Committee on Third-Party Legal Opinions of the Business Law Section of the Washington State Bar Association, Report on Third-Party Legal Opinion Practice in the State of Washington, Illustrative Opinion, n.18 (1999) ("Washington practice and understanding [on meaning of "to our knowledge"] represents a point of strong divergence from TriBar II."). In the context of securities law opinions, the opinion giver should consider whether, based on its knowledge of the facts, a disclaimer of investigation would be sufficient to make the opinion not misleading or to sufficiently "bespeak caution" to negate reliance. See Kline v. First Western Government Securities, Inc., 24 F.3d 480, 486 (3d Cir. 1994). Back

265 See TriBar Report § 1.5 (A material departure from any aspect of customary practice (including diligence or usage) should be expressly described in the opinion letter. For example, a mere listing in an opinion letter of documents examined is not sufficient to give notice to the recipient that the opinion giver reviewed only the listed documents (rather than all of the documents that would be covered by customary practice)); TriBar Report § 1.4(c) (Opinion letters often state (immediately before the opinion paragraphs) that the opinions being expressed are based on a review of certain identified documents "and such other investigation as we [the opinion giver] have deemed appropriate." The term "investigation" is generally understood to relate to both law and fact. Thus, the "such other investigation" statement merely emphasizes that the opinion letter is given in accordance with customary practice and its omission is not sufficient, by itself, to indicate that customary practice is not being followed). Back

266 17 C.F.R. § 230.144(a)(1). Back

267 ABA Formal Opinion 335, note 252, cites two extreme examples. In the first, where a lawyer is asked to issue an opinion concerning a modest amount of a widely traded security by a responsible client, whose lack of relationship to the issuer is well known to the lawyer, the Opinion states that the lawyer may ordinarily issue the opinion with considerable confidence. At the other extreme is a lawyer asked to prepare an opinion letter covering a substantial block of a little known security, when the client (be it selling shareholder or broker) appears reluctant to disclose exactly where the securities came from or the surrounding circumstances. In such event the question may arise whether the ostensible sellers are intermediaries for controlling persons or statutory underwriters. In that case the Opinion calls for "searching inquiry."

The SEC has made clear its view that a lawyer should not render an opinion on the availability of an exemption permitting the resale of unregistered securities based on hypothetical facts. See Distribution By Broker-Dealers of Unregistered Securities, Securities Act Release No. 33-4445 [Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶¶ 3090.101; 48215.835; 22,753-59 (Feb. 2, 1962) (The propriety of an attorney's professional conduct will be open to serious question if he furnishes an opinion on the resale of unregistered securities "based solely on hypothetical facts which he has made no effort to verify, and if he knows that his opinion will be relied upon as the basis for a substantial distribution of unregistered securities."); see also Securities Act Release No. 33-5168, [Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 22,760 (July 7, 1971). Back

268 17 C.F.R. § 230.144(c)(1); Resale of Registered and Other Securities, Securities Act Release No. 33-6099, Ques. 16 [Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 27054 (Aug. 2, 1979). Back

269 17 C.F.R. § 230.144(c)(2); Securities Act Release No. 33-6099, Ques. 20. Back


VI. Special Issues / Table of Contents