Garwin v. Anderson

54 N.W.2d 667, 334 Mich. 287, 1952 Mich. LEXIS 391

• Court: Michigan Supreme Court
• Decided: September 3, 1952
• Docket: Docket 15, Calendar 45,325
• Status: Published

Opinion

Dethmers, J.

This is a stockholders’ derivative suit brought against corporate directors and officers to recover for alleged breach of fiduciary duty in the following respects: (1) Sale of stock of the corpo-

ration at less than market price; (2)-compromise settlement of excessive bonus claims of the corporation’s president and another; (3) payment of excessive salaries to corporate officers; (4) compromise settlement of excessive commission claims of a creditor. From decree for defendants dismissing plaintiffs’ bill of complaint the latter appeal. •

In 1943 defendant corporation, hereinafter called Hayes, was engaged in manufacturing aircraft parts for use by the United States government. A fractional interest in Hayes, to-wit, 100,000 shares of its $2 par value common stock, was owned by 3 persons who were objectionable to the war department because they had violated the Federal neutrality act. The government required their elimination as stockholders-as a condition precedent to granting further contracts which were essential to Hayes’ survival. Attempts to find purchasers for the stock proved fruitless. Finally, on December 21, 1943, in order to satisfy the war department, Hayes, under authorization of its directors, purchased the stock with corporate funds for $200,000. This left its capital structure correspondingly impaired. The directors deemed it essential to successful operations that the stock be resold at once so that the sum used for the purchase might be restored immediately to,Working capital. Not only had all previous efforts to find a market failed, but, likewise, potential underwriters and brokers had been solicited without success, due, in -all probability,to, Hayes’ consistent record of losses in operations and the fact that no dividends had been paid since 1929. On 3 previous occasions, under similarly difficult circumstance's, one A. W: Porter, a Npw-'Yórk dealer in stocks and. .securities, had- underwritten and been surprisingly -successful in marketing Hayes stock when the company had been -ill need of money. Although they had not ascertained his financial strength, defendants had reason to and did repose confidence in his integrity, business; acumen and ability as an underwriter to move such ■ stock and obtain the desired proceeds for Hayes. lie was contacted and an attempt' made to interest him in the stock at $2.50 per share. He was not interested at a price greater than $2 per share. There ■is.no showing that the 100,000 shares could have .been sold at that time for more. Every fair inference- from the record is to the contrary. On December 21, 1943, Hayes sold the 100,000 shares at $2 per share to A. W. Porter Associates, Inc., a corporation controlled by Porter, as underwriter, for distribution to the public. Payment was agreed to be made in stipulated instalments and Hayes retained the stock as security.

On March 16, 1944, the agreement was modified and extended in relation to instalment due dates by a new agreement under which the stock was sold, as of that date, for distribution to the public, to the Porter corporation for $200,000, but retained by Hayes as security for performance of the contract and payment of the purchase-price promissory note due on or before 8 months from date thereof. The latter agreement provided that public distribution of the stock by the underwriter should be begun within 240 days and completed within 300 days in any 1 or more of the following methods, that is: “(a) A public offering, (b) sale thereof upon the New York Stock Exchange, and (c) such other method as shall be approved in writing by Clark (Hayes’ president.) in advance.” Hayes was empowered to cancel if the Porter corporation defaulted in payment of the note or in performance of its obligations under the contract.

The Porter corporation was not licensed as an underwriter, but at the time of the agreement it was contemplated, that it would register as a dealer. Subsequently, as appears from minutes of a meeting of directors of the Porter corporation, the latter was advised by counsel that it was inadvisable for it to secure registration as a dealer and it. was concluded to take out registration in the name of A. W. Porter & Company, a partnership, of which A. W. Porter was a partner (testimony was to the effect that a more favorable income tax status could thus be effectuated). Accordingly, on June 26, 1944, on which date such shares'were bringing-over $4 per share on the market, the underwriting-agreement was assigned by the Porter corporation to the Porter partnership with the written consent of Hayes’ president.

On July 11th. defendants permitted the 100,000 shares to be delivered to a bank as security for a $200,000 loan to the Porter partnership, whereupon the proceeds were paid forthwith to Hayes as purchase price of the stock. A pledge agreement was signed by the bank, the Porter partnership and Hayes, which provided for release by the bank to the partnership of such pledged shares as it might from time to time sell, upon payment to the bank of $2 for each share so released; further, that Porter partnership should sell at least 30,000 shares within 60 days and upon default therein and notice by the bank to Hayes, the latter might exercise an option to pay the bank and recover the shares. On' September 9th, when the 60 days had expired, no shares had been sold by the partnership. The bank did not elect to treat this as a default or to exercise its rights under the pledge agreement to sell the stock, but, on the contrary, appeared to waive it and, consequently, served no notice of default on Hayes. At that time Hayes’ shares were of a value of $6.50 per share on the New York stock exchange.

Plaintiffs claim defendants breached their fiduciary duty as relates to sale of the stock in 3 respects: (1) Consenting to assignment from the Porter corporation to the Porter partnership at a time when such shares were bringing considerably more than $2 per share on the market; (2) permitting the stock to be pledged to the bank as security for a loan to Porter partnership; (3) failure to retake the stock after September 9th upon Porter partnership’s failure to have sold 30,000 shares to the public.

Plaintiffs’ claim concerning the assignment is predicated on the theory that the Porter corporation was then in default on its contract with Hayes and could not carry it out because it was not and could not be licensed as a dealer so as to function as' an underwriter; that, therefore, Hayes then could have cancelled the agreement with Porter corporation and retaken the stock, worth over $4 per share • on the market, and that defendants’ failure so to do and to obtain the market price on the shares constituted a waste of corporate assets and, hence, a breach of fiduciary duty. Plaintiffs failed to establish the default and corresponding right of Hayes to terminate the contract and retake the stock as of June 26th, the date of the assignment. Under the March 16th agreement the Porter corporation had 240 days to initiate and 300 days to complete distribution of the shares to the public. Lack of a dealer’s license on June 26th constituted no breach or default. There is no showing that Porter corporation could not have obtained a license. Even if it had been established that Porter corporation could not have obtained such license, the fact remains that, under the terms of the agreement, it could have disposed of the stock on the New York stock exchange, through some member thereof, thus obviating the need of a dealer’s license on the part of Porter corporation. The latter had a right, under the contract, to assign it with the approval of Hayes’ president. There was no right in Hayes at that time to cancel or terminate the agreement or to retake the shares and consent to the assignment is in nowise shown to have constituted a betrayal of Hayes’ interests.

Prior to and at the time the stock was pledged Hayes had but 2 interests therein or objectives in relation thereto: The first, receipt of payment therefor, and, second, that it be distributed to persons not objectionable to the war department. When the stock was pledged Playes received payment in full simultaneously. The pledge agreement contained safeguards against the eventuality of the stock falling into objectionable hands. The trans action is not shown to have defeated either, one of the two interests of Hayes sought to be secured by the' underwriting agreement. The provision in the pledge agreement for sale of 30,000 shares within 60 days after July 11th was intended for the protection of the bank, being more rigid in its requirement than the provisions of the agreement between Hayes and Porter corporation. Failure to sell the 30,000 shares within 60 days was not treated as a default by the bank, no notice of der fault was served by the bank upon Hayes, and, hence, the eventuality against which Hayes was to be protected under such circumstances, namely, indiscriminate sale, upon forfeiture, by the bank, so that the shares might have fallen into hands objectionable to the war department, never occurred. In consequence, the right did not accrue to Hayes on September 9th or thereafter to pay the bank and retake the stock. Plaintiffs have failed to establish a breach of fiduciary duty by defendants in this respect.

The next claim of breach relates to defendants:’ compromise settlement of bonus claims of the corporation’s president and of the manager of its parachute- division. Under contracts of employment entered into as-of December, 1940, and March of 1942,- respectively, each was entitled to a stipulated salary and, in addition, to a bonus to be determined by specified percentages of net profits. Later, congress enacted the renegotiation act of 1942. Thereafter dispute arose as to whether the bonuses should be computed on the basis of net-profits before or after renegotiation. Ultimately a compromise settlement was concluded with both. Plaintiffs cite cáses from other jurisdictions in support of their contention that the computations should have been on the basis of net profits after renegotiation. ■ The trial court, relying upon Gee v. Olson, 320 Mich 274, ruled that the computation should not have been affected by renegotiation. While the latter case is not directly in point, its implications might be viewed as favorable to the trial court’s position. We need not determine, however, on which of the 2 bases the computation should 'have been made. At all events, a genuine dispute existed, with the legal rights of the parties in serious doubt. Under such circumstances, we cannot hold that the action of defendants in compromising and settling the claims constituted actionable breach of fiduciary duty.

Plaintiffs complain of payment of excessive salaries to the corporate president and other officers, and present a set of figures representing salaries paid to the president individually and another set representing totals paid to all officers and directors without itemizing or indicating the number of individuals involved or the amounts paid to . each. Having failed to establish the payment of any specific amount.to any'of the .officers or directors other than the president, we need consider only the claim as relates to salary paid him. No proofs ■ were offered by either side to establish what would have amounted to reasonable and proper compensation. Plaintiffs rely on McKey v. Swenson, 232 Mich 505, for the proposition that the burden rested upon defendants to establish the reasonableness of the compensation. Defendants urge that under Wiseman v. Musgrove, 309 Mich 523, the burden rested upon plaintiffs to establish the unreasonableness thereof. Reading of the 2 cases and of 2 others therein cited, namely, Nahikian v. Mattingly, 265 Mich 128, and Miner v. Belle Isle Ice Co., 93 Mich 97 (17 LRA 412), discloses that the rule imposing the burden of proof on defendants is applicable in cases where the action of the directors in fixing their own compensation is held void for the reason that it was accomplished by the vote of those benefiting thereby. As said in the Miner Case (id 110):

“All the authorities agree that it is essential that the majority of the quorum of a board of directors shall be disinterested in respect to the matters voted upon.”

In the instant case the president was not a director and played no official part in the fixing of his salary. It was not shown that the fixing of salaries of other officers or directors was in any instance áccomplished by or dependent upon the vote- of the individual thereby benefited. Accordingly, the case presents a situation in which the action in question was not void as in the McKey Case, but is comparable to that in the Nahikian Case, in which this Court said, as later quoted with approval in the Wiseman Case, the following:

“In McKey v. Swenson, 232 Mich 505, we held action in fixing salaries wholly void and cast the burden upon the officers to give the court information upon which reasonable compensation could be fixed. Such, however, is not the case at bar, for here we do not have wholly void action but only assertion of unreasonable compensation and the burden is on plaintiff to establish the charge.”

Plaintiffs failed to establish a case in this regard.

Finally, plaintiffs complain of defendants’ settlement of a creditor’s claim for alleged commissions due, under a contract, on business obtained for Hayes. Plaintiffs, present an analysis of Hayes’ books purporting to show nothing was then-due the creditor. Hayes’ comptroller’s analysis was to the contrary, showing a sum due somewhat less than the compromise settlement, while the creditor claimed an amount considerably in excess thereof. We are not satisfied on the entire record that plaintiffs have established the accuracy of their own and inaccuracy of the comptroller’s conclusions from the figures contained in Hayes’ books. Under all the facts established by the record, it cannot be said that plaintiffs have sustained the burden of proving that defendants acted recklessly or breached their fiduciary duty in effecting the compromise and settlement.

Affirmed, with costs to defendants.

Butzel, Carr, Bushnell, Sharpe, Boyles, and Reid, JJ., concurred. The late Chief Justice North did not sit.