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Kentucky Resources Council, PO Box 1070, Frankfort, KY 40602 Phone [502] 875-2428

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PO Box 1070, Frankfort, KY 40602  Phone 502.875.2428, Fax 502.875.2845

KRC Does Not Support Constitutional Amendment #2  Posted: October 26, 2001

KRC DOES NOT SUPPORT CONSTITUTIONAL AMENDMENT #2

KRC has been asked by many members and others to offer our assessment of Constitutional Amendment #2, which asks the question:

Are you in favor of permitting the General Assembly to provide

by general law for the formulation, organization, and regulation

of corporations by repealing certain sections of the Constitution

of Kentucky relating to corporations?

A well-funded public relations campaign, fueled with nearly $3 million dollars, the bulk of which is a $2.7 million dollar contribution by Ashland, Inc., is advocating passage of this constitutional amendment.

What Does Constitutional Amendment #2 Do?

If enacted, the Constitutional Amendment would repeal ten (10) separate sections of the Kentucky Constitution:

Ky. Const. 191, which voids special grants or charters that were in existence in 1891;

Ky. Const. 192, which prohibits a corporation from engaging in business other than that expressly authorized by its charter, and restricts to five years the holding by a corporation of real estate if that property is not proper and necessary for carrying on its legitimate business.

Ky. Const. 193 which prohibits corporations from issuing stocks or bonds unless for an equivalent value in money or labor and prohibits fictitious increases of stock or indebtedness.

Ky. Const. 194, which requires corporations organized in this state or carrying on business in the state to have one or more known places of business and an authorized agent or agents there to receive process.

Ky. Const. 198, which creates a duty in the General Assembly "from time to time, as necessity may require" enact laws to prevent trusts, pools, combinations and other organizations from price-fixing.

Ky. Const. 200, which provides that if a domestic corporation or utility merges with a foreign corporation (one outside of Kentucky) the Kentucky corporation or utility does not become a foreign corporation, but instead the Courts retain jurisdiction over corporate property in Kentucky as if the consolidation had not occurred.

Ky. Const. 202, which provides that foreign corporations organization outside Kentucky cannot transact business in the state on more favorable conditions that are prescribed by law to similar corporations organized in Kentucky.

Ky. Const. 203, which provides that no corporation can lease or alienate (sell or otherwise transfer) a franchise so as to relieve the franchise from liabilities contracted for or incurred in the operation of the franchise.

Ky. Const. 207, which provides that in elections for corporation managers or directors, each shareholder may cumulate votes (cast all of its votes for one or more directors) and that such directors and managers cannot otherwise be elected.

Ky. Const. 208, which provides that a corporation includes a joint stock company or association.

These are the provisions sought to be repealed. Under the Constitutional Amendment, the General Assembly could, but is not required to, address any of these matters by statute. Existing statutory provisions mirroring or implementing these constitutional provisions could in the future be altered or eliminated.

Little discussed in the debate concerning Constitutional Amendment #2 is that as a companion to Senate Bill 120 (which authorized the constitutional amendment to be placed on the ballot November 5), the General Assembly passed Senate Bill 121, making changes in the state's corporation statutes. Sections 10, 11, 15, 18, and 19 of SB 121 take effect only if the constitutional amendment passes.

Section 10 of SB 121 removes the language requiring that shares be issued only for equivalent consideration, and allows boards of directors to issue shares for consideration of any tangible or intangible property, including promissory notes.

Section 11 removes the requirement that shares be issued to shareholders only for consideration.

Section 15 of SB 121 eliminates the obligation to hold a shareholders' meeting to take actions unless unanimous consent is provided by the shareholders.

Section 18 eliminates cumulative voting by shareholders unless the articles of incorporation require cumulative voting for directors.

Section 19 of SB 121 provides for removal of directors and is amended to reflect that cumulative voting has been eliminated as a constitutional requirement.

Analysis

Constitutional Amendment #2 has been dubbed the "stealth" amendment because it attracted so little attention from the media covering the 2002 General Assembly session, and because few voters are aware of the actual implications of the amendment.

It is a fair question to ask why Ashland, Inc., an existing company headquartered in Kentucky, who has recently announced plans to cut jobs, reduce corporate giving, and to sell some of its businesses, would invest $2.7 million dollars in the pro-amendment media campaign. It is fair as well to ask whether the proposed changes are in the best interests of Kentucky's residents. On balance, and after consideration of the arguments of the advocates of the amendment, KRC believes that the amendment as drafted is not in the best interests of KRC's members, nor of the average Kentuckian.

1. Repeal Of Constitutional Constraints Allows But Does Not Require The General Assembly To Enact Laws Providing Similar Protections

Amendments to state constitutions are not intended to be effected without reflection or understanding. The submittal of constitutional amendments for popular vote underscores the enduring nature of the constitution relative to legislative enactments that may be repealed or amended with relative ease and without direct public electoral involvement.

Elimination of the constitutional provisions allows but does not require the General Assembly to enact laws replacing those provisions – in fact it is reasonable to assume that the purpose behind the advocacy of the amendment is to change the effect of one or more of those constitutional provisions on corporate behavior or structure rather than merely to impose the same restraints by law rather than by constitutional provision.

The constitutional amendment is poorly drafted and does not fairly inform the voter of the effect of the amendment, inviting litigation over whether the amendment is proper. In asking whether the voter is "in favor of permitting the General Assembly to provide by general law for the formation, organization and regulation of corporations by repealing certain sections" of the constitution, the question implies that there is something in those constitutional sections prohibiting the General Assembly from so providing. In fact, the General Assembly does already provide by statute for the formation, organization and regulation of corporations, subject to certain constraints imposed by the constitution.

The question to be answered by each voter in determining whether to support the amendment is whether, for each of those constitutional provisions, the absence of the requirement is in the best interests of the public since once removed from the state constitution, there is no longer a guarantee that the General Assembly's laws, and corporate behavior and forms, will be subject to those constraints in future years unaltered by the General Assembly's law-making power.

2. What WILL happen if Constitutional Amendment #2 Passes

Assuming the validity of Sections 11, 15, 18 and 19 of Senate Bill 121, if Constitutional Amendment #2 becomes law shareholders will immediately lose the right to cumulate their votes for directors of the corporations unless the articles of incorporation explicitly require such cumulative voting.

Cumulative voting allows a shareholder, rather than casting a vote for each Director, to group or cumulate votes for a fewer number of directors or one director. The effect of cumulative voting is to enable smaller shareholders to exercise a greater voice in elections of directors, and the elimination of cumulative voting allows larger shareholders to dominate elections.

No further legislative action would be required to eliminate the right of shareholders to cumulative voting for Boards of Directors.

Additionally, if the amendment passes, the General Assembly would be relieved of the constitutional duty to enact laws to prevent trusts from price-fixing.

If the amendment passes, corporations would become eligible to amass and hold real properties not related to their lawful corporate purposes, for an indefinite period of time.

If the amendment passes, Kentucky companies merging with foreign corporations would no longer be necessarily subject to Kentucky courts as if they remained Kentucky corporations.

3. What MAY happen if Constitutional Amendment #2 Passes

There are other changes that the repeal of constitutional provisions might allow in the future, depending on General Assembly action.

Current state statutes require that foreign corporations register to do business in the state and maintain an agent to receive process; yet that would no longer be required without Ky. Const. Section 194. After repeal of this section, if the General Assembly removes this requirement, it would be difficult for an injured party to seek legal remedies against a foreign corporation in Kentucky courts for injuries caused by the corporation and occurring in the state. That injured party might be forced to sue in another state since without an office and an agent of process in Kentucky, the courts might lack "jurisdiction" over the corporation.

Foreign corporations could be given more favorable conditions by future legislatures for doing business in Kentucky than domestic corporations organized in Kentucky, since Ky. Const. Section 202 would be repealed. Kentucky officials have been criticized over the years for packaging tax and other incentives to attract automotive and other foreign corporations; and removal of this provision would eliminate any barrier from providing foreign corporations advantageous conditions over domestic corporations.

Grantors of franchises could become insulated from liability for actions of the grantee of the franchise, thus lessening accountability, with the repeal of Ky. Const. Section 203.

4. The Case Has Not Been Made That The Public Will Benefit

With all due respect to the advocates of the measure, the case has not been made for eliminating most of the constitutional provisions. (Section 191 applies only to corporations in existence in 1891 and is unlikely to affect any new corporation's siting decision).

The arguments advanced are a "need to modernize" because our state constitution contains provisions that are not included in some other state constitutions, or which are managed by state law in other places. It is true that the laws of corporations vary in many respects among the states. But it is a leap of faith rather than an empirical conclusion based on fact that Kentucky's constitutional provisions are a factor, or a significant factor, in the siting decisions of new corporations. Quality of life, access to workforce, transportation access, marketplace, tax policies; all this and more play into the decision of a corporation. There must be more than merely being "different" to warrant wholesale elimination of these provisions, many of which act to restrain the potential for corporate abuse or to assure accountability.

It is asserted that these changes will "improve our economic competitiveness and help bring more jobs to Kentucky" but where is the evidence that our competitiveness has suffered due to these provisions or that elimination of the provisions will improve either? Will a new corporation be dissuaded from making Kentucky its headquarters because we require that their indefinite holding of real estate bear some relation to their corporate purposes? Will they be dissuaded from siting here by the protection against foreign corporations being given preferential treatment? Will the new Kentucky company be concerned that foreign corporations doing business here might no longer have to maintain an office and an agent for process like a Kentucky corporation? It is doubtful that such changes would play a factor since they do not inure to the benefit of Kentucky corporations. Instead, the corporation that remains "foreign" to Kentucky rather than siting here gains through the repeal of several sections.

Or is it the existing Kentucky corporation that may wish to merge with a foreign corporation that benefits since if it merges with a foreign corporation the Kentucky property may no longer be automatically subject to Kentucky's courts; and since depending on future legislative action it may no longer need to maintain an office or agent of process in order to do business here.

The ramifications of the repeal of many of these state constitutional provisions is poorly-understood by the mass of voters, who deserve a more clear-headed and substantive analysis than the superficial media campaign that has been presented. Constraints on corporate behavior intended to assure accountability and to enhance the rights of minority shareholders, are not archaic, and are as needed in this era of multi-national corporations, in which both private corporations and essential utility services are increasingly under the control or ownership of foreign (out-of-state or foreign national) corporations.

Conclusion

In a thoughtful piece, former Judge Howerton asked why Kentucky was near the bottom in several key measures of economic competitiveness; why the largest businesses with headquarters in Kentucky incorporate in other states; why we aren’t home to any of the 200 largest companies and why many corporations choose not to operate here. Good questions all, and in need of analysis and real answers before it is assumed without such analysis that our state constitution is the cause or even a cause of those perceived weaknesses. Once the case is made, section by section, and once the public can be assured that in the absence of these constraints the rights of the public, of existing Kentucky corporations, or minority shareholders and of those injured by the acts and omissions of foreign corporations will be protected, then repeal of that constitutional section or sections will be warranted.



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