For the past several years, David has owned and operated a company which produces and cans various soups. Due to David's secret recipes, the business has grown by leaps and bounds. David's good friend Oliver owns and operates a chain of sandwich shops, which have also thrived due to Oliver's excellent restaurant management abilities.
One day while playing golf, David and Oliver decide to work together in a new business venture. They decide to start a soup restaurant called "Orphan's Delight." David agrees to provide Orphan's Delight with his soup recipes and access to the suppliers who provide the soup ingredients. Oliver agrees to hire employees and manage the restaurant. David and Oliver do not sign any formal agreements or documents creating the business.
To capitalize the business, David contributes $30,000 and Oliver contributes $10,000. Oliver locates a building for the soup shop and executes a two-year lease for the property on February 1, 2011, singing the lease "Orphan's Delight, by Oliver Twist, Manager." The rental payments under the lease are $2,000 per month. The lease also permits Orphan's Delight to install furniture and equipment necessary for the operation of a soup shop, provided, the furniture and equipment are removed upon termination of the lease, and the building is restored to its prior condition.
Becoming concerned about their ability to maintain adequate working capital, Orphan's Delight obtains a loan from First Bank for $50,000 at 0% interest. On March 1, 2011, the parties validly execute a Note and a Security Agreement granting First Bank a security interest in "all furnishings and equipment owned or hereafter acquired by Orphan's Delight." Orphan's delight signs the documents "Orphan's Delight, by Oliver Twist, Manager." Orphan's Delight uses the money to purchase industrial oven systems from Ovens R Us., Inc. The ovens are rolled into place and plugged in the next day.
To furnish and decorate the seating area in the restaurant, David and Oliver go to Second Bank and, due to the fact Second Bank's financing statement search reveals no prior security interests, Orphan's Delight obtains a loan for $50,000 at 0% interest which it uses to hire a decorator and to purchase tables, chairs, paintings and other furnishings for the soup shop. On April 20, 2011, the parties validly execute a Note and a Security Agreement granting Second Bank a security interest in "all furnishings and equipment owned or hereafter acquired by Orphan's Delight." Orphan's Delight signs the documents "Orphan's Delight, by Oliver Twist, Manager." Second bank then immediately files a financing statement with the Secretary of State to perfect its security interest.
On June 1, 2011, Orphan's Delight opens to great success. Every day for the first year a line of customers stretches out the door and down the block. David and Oliver are thrilled. At the end of the first year of business, after paying all expenses, the soup shop shows a profit of $100,000. David and Oliver agree to use $50,000 of these profits to pay $25,000 each to First Bank and to Second Bank to reduce the principal on the existing loans. The remaining $50,000 in profits are distributed to David and Oliver.
The second year, however, is not as successful. Competing soup shops notice the success Orphan's Delight is enjoying and open competing shops. Three months into the New Year, Orphan's Delights is out of working capital. David agrees to loan the business $50,000 at 0% interest to keep the doors open. The parties validly execute a Note and a Security Agreement granting David a security interest in "all furnishings and equipment owned or hereafter acquired by Orphan's Delight." Orphan's Delight signs the documents "Orphan's Delight, by Oliver Twist, Manager." David's UCC 1 search reveals only Second Bank's UCC 1. David then properly files a financing statement to perfect his security interest. After another three months, these funds are gone, and the shop closes for good and defaults on all its loans as well as the lease on December 1, 2012. At that time, the business has the following assets and liabilities:
Liabilities
1. Remaining Payments under Lease ($6,000)
2. Damages to building ($6,000)
2. Loan from First Bank ($25,000)
3. Loan from Second Bank ($25,000)
4. Loan from David ($50,000)
5. Payments to soup providers ($2,000)
Assets
1. Oven Systems $20,000
2. Furnishings $15,000
3. Cash $ 0
Questions
1. Considering what you have learned about business organizations, what type of a business entity is Orphan's Delight and why?
Orphan's Delight is an A Corporation.
2. Given your answer to #1, at the end of year 1, how will the $50,000 in remaining profits be shared between David and Oliver and why?
The remaining $50,000 in profits will be shared between David and Oliver based on the ration of the contribution of the initial capital.
3. How will the remaining assets of Orphan's Delights be split among the various creditors and why?
The remaining assets of Orphan's Delights will be split among the various creditors.
4. Assuming Oliver and David have adequate assets personally to meet the remaining obligations of the business (after the secured creditors take the oven systems and furnishings), will they be required to pay these creditors? How many dollars will David be forced to pay and why? How many dollars will Oliver be forced to pay and why?
5. How would your answers to #3 and #4 change, if at all, if Orphan's Delight was an LLC which filed for bankruptcy immediately after closing its doors and why?