Chapter 28 Corporate Liability to Customers, Third Parties, and Shareholders

Chapter 28 Corporate Liability to Customers, Third Parties, and Shareholders I. Multiple Choice 1. Product manufacturers are usually sued for product-related injuries based on: a. b. c. d. strict liability negligence contributory negligence all of the above Answer: a Type: K 2. Which of the following is not one of the primary types of product defects? a. b. c. d. manufacturing defect design defect hidden defect warning defect Answer: c Type: K 3. The court case, MacPherson v Buick (1916), established which one of the following legal precedents? a. b. Negligence needed to be proved in product liability cases A contractual relationship between the injured party and the manufacturer is not needed to recover damages. The strict liability standard for products liability cases. The ‘unreasonably dangerous’ standard for products liability. c. d. Answer: b Type: K 4. A statute of repose is: a. a product liability reform proposal that would require product liability lawsuits be brought within a certain number of years after the product was purchased. a common law rule for product liability that is similar to a statute of limitations. a statute that requires that the case be closed if there is no action on it within ten years. b. c. 211 d. None of the above. Answer: a Type: K 5. Strict liability for all consumer losses due to product-related injuries: a. b. c. d. provides inadequate incentives for manufacturers to invest in safety provides inadequate compensation for victims provides appropriate incentives for consumers to take safety precautions helps correct the problem of uninformed consumers who overconsume risky products in the absence of such a liability rule. Answer: d Type: A 6. Under the most recent commercial general liability policies, environmental damage is a. b. c. d. covered only if it was “sudden and intentional”. excluded from coverage under the policy. covered if the pollution was gradual. covered if the policyholder was unaware that it was occurring. Answer: b Type: K 7. Critics of the Superfund law argue that: a. the EPA has spent excessive resources on cleaning up sites that have little chance of posing harm to area residents. the law provides incentives for excessive investment in safety. the clean-up efforts have increased the exposure to toxic substances in some cases because these efforts have freed some of the substances into the environment. All of the above. b. c. d. Answer: d Type: K 8. If the directors and officers of a corporation cause the shareholders to suffer a loss they: a. b. c. d. are personally liable for the losses. are not liable if they can show that they acted with good business judgment. can never be held personally liable because of the limited liability rule. can only be liable up to the limit of their investment in the corporation. 212 Answer: b Type: K 9. Which of the following statements is true about liability for environmental damage under the common law? a. b. c. Liability has become easier to avoid. Insurers are more willing to provide adequate coverage at reasonable prices. Liability for environmental damage has been greatly expanded during the last several decades. None of the above. d. Answer: c Type: K 10. Roaster Coaster Inc. manufactures rolling hotdog vending stands. Their usual production is five vending stands per week. One of the hotdog vending stands comes off the production line defective. The stand eventually starts on fire at an amusement park. The fire causes a minor panic that results in a few children being injured as the crowd rushes away from the fire. This defect is an example of a a. b. c. d. manufacturing defect hidden defect design defect warning defect Answer: a Type: A 11. If a group of shareholders file a lawsuit, on behalf of the corporation, against the directors and officers of the corporation, it is called a a. b. c. d. derivative lawsuit direct action lawsuit nuisance lawsuit indemnity lawsuit Answer: a Type: K 12. ‘Do not use near fire or flame’ is written on a perfume bottle. This is an example of a a. b. c. warning defect manufacturing defect design defect 213 d. none of the above Answer: d Type: A 13. In event of a derivative lawsuit, a corporation can indemnify its directors and officers for which of the following costs? a. b. c. d. litigation expenses fines levied judgment and settlement amounts all of the above Answer: a Type: K 14. Many analysts are of the opinion that a large proportion of securities class actions are ‘strike suits’. A strike suit is a securities class action that a. b. c. d. has little or not merit, but is filed in order to coerce management into a settlement is usually initiated by the corporation’s employees is filed with the Securities Exchange Commission (SEC) all of the above Answer: a Type: K 15. A manufacturer is subject to liability resulting from express warranties and implied warranties. This is an example of a. b. c. d. tort liability contractual liability strict liability imputed liability Answer: b Type: K II. Fill-Ins 1. An important source of statutory liability for environmental contamination is Comprehensive Environmental Response Compensation and Liability Act of 1980 (CERCLA) or Superfund law . 214 2. The most recent CGL policies liability. exclude coverage for environmental 3. Insurance coverage for pollution liability is often offered in a separate environmental impairment liability (EIL) policy. 4. If a director of a corporation makes a decision, using all available information and in reasonable consideration of the pros and cons of that decision, he or she will not be held personally liable in the event of a loss to shareholders because the business judgment rule will be applied by the courts. 5. Directors and officers of a corporation owe a duty of shareholders of the corporation. 6. A suit that is brought by a shareholder on behalf of the corporation is called a derivative suit. loyalty or care to the III. Problems and Short Answer Questions 1. For each of the following examples of product liability cases, explain what type of defect is being alleged. a. liability of an off-road auto manufacturer for failing to install a rollbar to minimize injuries if the vehicle overturns. b. liability of a babyfood manufacturer for pieces of glass found inside some of the jars. c. liability of a pharmaceutical company for side-effects of a drug. Answer: a) design defect, b) manufacturing defect, and c) warning defect Type: A 2. Kristopher is an avid bicycle enthusiast. He participates in Ride the Rockies, a popular bike race in the Colorado mountains. During the race, he slips on some gravel when going down a hill at 50 miles per hour and is thrown from his bike. His bike helmet cracks and he has serious head injuries. If he survives, under what theories can he sue the bike helmet manufacturer? Answer: He can claim that the helmet is defective. It may be a design defect if he can show that all the helmets have the same problem. If it can be shown to be peculiar to his particular helmet, it might be a manufacturing defect, such as a bad batch of plastic. It could also be a warning defect if the helmet was known by the manufacturer to be able to resist impacts but not sufficient to protect him from this type of road injury. An alternative possibility is to claim a breach of warranty since the implied warranty is that the helmet is suitable for what it is intended. 215 Type: A 3. If the courts routinely hold manufacturers liable for injuries when the manufacturer could not have foreseen the danger or when the danger is caused by the consumer’s misuse of the product, what impact will this have on the incentives for product safety and victim compensation? Answer: This will likely result in too much investment in safety. Manufacturers will provide excessive warnings and may withdraw products from the market that actually might have a beneficial impact on risk. Two examples are drugs with rare but dangerous side-effects and small airplanes. On the other hand, holding the manufacturers liable in these cases makes it more likely that victims will be compensated. Type: A 4. In what way is the current system of product liability regressive? Answer: The current system is regressive because the cost of product liability is spread among all consumers equally (since prices of products are unrelated to the wealth of the purchaser), but the liability awards are generally higher for wealthy plaintiffs. Type: K 5. Name and briefly explain the types of product liability reforms that have been adopted by individual states and proposed at the federal level. Answer: These reforms include measures that would (1) reduce the potential liability of producers (e.g. by curtailing joint and several liability, capping pain and suffering damages, imposing limitations on punitive damages, and altering the collateral source rule); (2) reduce incentives of plaintiff’s attorneys to file marginal cases (e.g. by loser pays rule and reduced contingency fees for plaintiff’s attorneys); statute of repose (requiring that suits be brought within a certain time after purchase of the product). Type: K 6. Andy owns 100 shares of stock in XYZ Corporation. He believes that XYZ’s management has been guilty of mismanagement. What possible remedies does he have? Answer: He can bring a derivative suit on behalf of the corporation, in which case any damages would be awarded to the corporation. Alternatively, he could bring a direct suit and win damages directly. A class action could be brought be a group of shareholders. With only 100 shares, it is doubtful that this would be financially 216 worthwhile to Andy and the management might be covered under the business judgment rule. Type: A 7. The 500 residents of Teenytown USA have heard that a section of their town has been declared a Superfund cleanup site. They are concerned that the costs of the cleanup will outweigh the benefits. The cleanup of their town is estimated to cost $5-10 million. The dump is 5 miles from town and the contaminants are not currently affecting groundwater. What other information would be necessary for them to conduct a cost benefit analysis? How would you suggest that Teenytown residents present their argument? Answer: Teenytown will need to estimate any other costs that may arise, including the potential for the cleanup to release toxins into the ground, air and water. In the absence of any other costs, the benefit to the community would have to be $10,000 per resident to make the cleanup worth the cost to taxpayers. Answers will vary. Type: A 217