Lichtenstein v. Consolidate Services

• Court: Court of Appeals for the First Circuit
• Decided: April 2, 1999
• Docket: 98-1994
• Status: Published

Opinion

USCA1 Opinion

                 United States Court of Appeals

                     For the First Circuit


Nos. 98-1994

     98-2086



                     ARNOLD H. LICHTENSTEIN,



                      Plaintiff, Appellant,



                                v.



            CONSOLIDATED SERVICES GROUP, INC. ET AL.,



                     Defendants, Appellants.


APPEALS FROM THE UNITED STATES DISTRICT COURT



                    FOR THE DISTRICT OF MAINE



             [Hon. Gene Carter, U.S. District Judge]


Before



                     Boudin, Circuit Judge,

                 Bownes, Senior Circuit Judge, 

                   and Stahl, Circuit Judge.


Ralph A. Dyer, with whom Law Offices of Ralph A. Dyer,

P.A.,was on brief for appellant, cross-appellee Arnold H.

Lichtenstein.

     Tracy D. Hill, with whom Harold J. Friedman and Friedman,

Babcock & Gaythwaite, were on brief for appellee, cross-appellant

Jonathan G. Fryer.

     Robert E. Mittel, with whom Mittel, Asen, Hunter & Cary were

on brief for appellee Consolidated Services Group, Inc.


April 1, 1999


BOWNES, Senior Circuit Judge. On or about October 1990,

Arnold H. Lichtenstein, vice-president and a minority shareholder,

was ousted from Consolidated Services Group, Inc. ("CSG"), a close

corporation that distributed coffee and bottled water.  Two

obstacles stood in the path of an amicable parting of the ways:  a

non-compete clause contained in his employment agreement and

disposal of his shares of CSG stock.  Lichtenstein attempted to

negotiate a settlement as to the first issue, and decided to sell

his shares in CSG back to the corporation.  His former colleagues

took the position that because the incorporation process was never

perfected, CSG did not exist.  After efforts to resolve these

matters failed, Lichtenstein filed suit against CSG, John Salterio,

the president and majority shareholder, and others involved with

CSG, alleging, inter alia, breach of contract and breach of

fiduciary duty, and seeking dissolution of the corporation.  

  There are three issues before us.  Lichtenstein appeals

from:  (1) the entry of summary judgment in favor of Jonathan G.

Fryer, the lawyer who drafted the incorporation documents and

served as voting trustee, on a breach of fiduciary duty claim and

a breach of contract claim; and (2) the denial of attorney's fees. 

Fryer cross-appeals from the district court's denial of his motion

seeking Rule 11 sanctions against Lichtenstein and his counsel for

pursuing allegedly frivolous claims.  We affirm.

                                I.

  The history of CSG began in late 1988 when Salterio and

Lichtenstein decided to include two others, Peter E. Butera and

Martin D. Keefe, in their plans to form a corporation.  Prior to

the decision to incorporate, Salterio and Lichtenstein had been

conducting business as Consolidated Services Group.  

  Fryer was retained for the purpose of preparing the

incorporation papers (which consisted of the Articles of

Incorporation, the Corporate Formation Agreement, the Initial

Employment Agreement, the Resolutions from the First Meeting of

Incorporators, and the Voting Trust Agreement).  These documents,

executed on or about April 4, 1989, reflect that the incorporators

issued shares of stock, elected officers and directors, and

established a voting trust empowering Fryer to vote each person's

share of corporate stock as Fryer was directed.  The Initial

Employment Agreement set forth the conditions of employment by the

corporation, and included a restrictive covenant barring former

employees of CSG from participating in "any business similar to the

type of business conducted by the corporation" within a 150-mile

radius for a period of three years. 

  Although the parties proceeded to conduct business as

CSG, the business's assets never were transferred to the

corporation, no taxes were ever paid by CSG (instead, Salterio

included the business's income on his personal income tax returns),

and the officers never held a corporate meeting after the

preliminary organizational session.  The corporation's authority to

conduct business was suspended in 1991 for failure to pay its

corporate franchise tax to the state of Maine.

     This appeal stems largely from the district court's

treatment of certain motions related to the suit against Fryer. 

The facts underlying plaintiff's case against Fryer, which are

undisputed, can be essentially boiled down as follows:  Fryer

prepared CSG's incorporation papers, and he later advised

Lichtenstein that CSG considered Lichtenstein bound by the Initial

Employment Agreement's non-compete clause.  Once Lichtenstein

expressed a desire to sell back his stock to the corporation, Fryer

seemingly reversed ground and told Lichtenstein that because the

incorporation of CSG was never perfected there were no shares to

sell or transfer.  Based on these circumstances, Lichtenstein

accused Fryer of breach of contract and breach of fiduciary duty in

federal court.  For much of the pretrial proceedings, he sought

evidence of collusion between Fryer and Salterio in pilfering

corporate assets and concealing wrongdoing.  Despite several months

of discovery, he unearthed no direct evidence of malfeasance by

Fryer.

     Defendants subsequently moved for summary judgment on all

claims.  Fryer moved for Rule 11 sanctions against Lichtenstein and

his attorney.  The motions were referred to a magistrate judge. 

After thoughtful consideration of the issues, the magistrate judge

recommended that the breach of contract and fiduciary duty claims

against Fryer be dismissed.  He reasoned that Fryer's obligation

as voting trustee was contractually limited to voting the shares of

stock in a manner directed by the stockholders, and that there was

no evidence that Fryer breached his fiduciary duty as voting

trustee.  Nor, the magistrate concluded, was there any other

fiduciary or contractual relationship between Fryer and

Lichtenstein, for Fryer never represented Lichtenstein in any

capacity after the incorporation papers were drawn up.  

     On September 10, 1996, the district court adopted the

magistrate's recommendation over Lichtenstein's objections, and

entered judgment for Fryer on all claims.  The surviving claims

were tried before the district court in March and April of 1997. 

The court issued a memorandum decision and order on August 22,

1997, setting forth its findings of fact and conclusions of law

pursuant to Fed. R. Civ. P. 52.  The court ruled, as a preliminary

matter, that CSG was a valid corporation under Maine law.  It went

on to hold that Salterio had violated his fiduciary duty to CSG and

its shareholders, but that none of the defendants breached the

Initial Employment Agreement.  The court ordered the corporation

dissolved under Me. Rev. Stat. Ann. tit. 13-A,  1115(1)(D), (E)

(West 1998), because of Salterio's fraudulent conduct and misuse of

corporate assets.  It then appointed a receiver to complete an

accounting of the business, pay creditors, and distribute the

balance of the resources to the shareholders.  See Lichtenstein v.

Consolidated Servs. Group, Inc., 978 F. Supp. 1, 21 (D. Me.  1997).

     As to Fryer's motion for Rule 11 sanctions, the

magistrate judge had recommended that Lichtenstein's counsel be

sanctioned for continuing to pursue claims against Fryer in an

amended complaint after having reason to believe they were without

factual basis.  The magistrate found no reason to penalize

Lichtenstein himself.  The district court, assessing the matter denovo at the conclusion of the case, held that sanctions were not

warranted.  It refused to sanction Lichtenstein or his counsel,

finding that, in light of the "suspicious" nature of the

circumstances, "Fryer['s role] could have been reasonably

understood, in the beginning, as one of complicity with the

activities of Defendants . . . in what appears to the Court to be

an effort to purloin the corporate opportunity from the Plaintiff

and others." 

     The case was eventually settled in the main after the

receiver issued a preliminary report outlining the corporate assets

and recommending certain courses of action.  At some point,

Lichtenstein's counsel sought an order awarding attorney's fees,

citing Me. Rev. Stat. Ann. tit. 13-A,  634 (West 1998)

(authorizing court to award "reasonable expenses, including

attorney's fees" in a successful derivative action).  The court

concluded, however, that the statute, which had been enacted during

the pendency of the action, did not retroactively apply to cases

such as this.  There being no other statutory or contractual basis

for an award of attorney's fees, the motion was denied.  

     This appeal followed.

                               II.

     The standards for summary judgment are well-settled, and

need only brief mention.  A district court may not grant summary

judgment unless the pleadings and supporting documentation reveal

no genuine issue of material fact.  See Fed. R. Civ. P. 56(c).  All

reasonable inferences based on the record must be construed in the

non-movant's favor.  To avoid the entry of judgment, a party

opposing summary disposition must come forward with reliable

evidence in support of his position.  Within these parameters, we

determine de novo whether the district court was correct in

rejecting the claims leveled against Fryer.  See Lennon v. Rubin,

166 F.3d 6, 8 (1st Cir. 1999). 

     Lichtenstein asserts that Fryer (sued solely in his

capacity as trustee) was not a voting trustee with a carefully

circumscribed role, but should be treated as a "controlling

shareholder" with broader fiduciary responsibilities to the

corporation generally, and to the minority shareholders

specifically.  This assertion does not survive scrutiny.  There is

nothing in the record to suggest that Fryer became a shareholder in

CSG; nor was Fryer ever elected as an officer or director of the

company.  Hence, the obligations naturally flowing from holding

corporate office, see Me. Rev. Stat. Ann. tit. 13-A,  716 (West

1998), do not apply to Fryer. 

     His only corporate role was to serve as voting trustee. 

Indeed, the CSG documents are replete with references to Fryer as

the "Voting Trustee of the shares of [CSG]."  More important, the

Voting Trust Agreement states that "[t]he sole obligation of the

Trustee shall be to cast the vote of each share of stock pursuant

to the written direction of each beneficiary entitled to such

share."  In general, the terms of the trust agreement define the

contours of a trustee's duties.  See, e.g., Me. Rev. Stat. Ann.

tit. 18-A,  7-302 (West 1998); Restatement (Second) of Trusts 

164, at 341 (1959) (stating general principle that "[t]he nature

and extent of the duties and powers of the trustee are determined

by the terms of the trust").  Against this backdrop, Lichtenstein's

claim that Fryer assumed far-reaching fiduciary obligations has no

merit.  The provision of the Voting Trust Agreement at issue not

only expressly limited the power of Fryer as a trustee, but also

specifically narrowed his duty to a single act: that, when called

upon, he would vote the corporate shares of "each beneficiary" as

he was instructed.  Fryer had no discretion in fulfilling this

role, and was not invested with any other power or obligation.  And

while Fryer occasionally performed legal work for CSG, he acted on

behalf of the corporation, and never represented Lichtenstein

himself.

     Lichtenstein makes a half-hearted attempt to suggest that

the trust established by the Agreement did not satisfy the

conditions of a voting trust under Maine law.  If it was not a

valid voting trust, Lichtenstein argues, then presumably some

broader obligations were imposed upon Fryer.  This effort leads

nowhere.  Other than asserting it to be so, he has come forward

with nothing that creates an issue of fact as to the validity of

the voting trust.  The Voting Trust Agreement here plainly

separated the voting rights of the stock from other attributes of

ownership, was implemented for a specific duration, and was created

assertedly for the purpose of avoiding secret voting blocs and

facilitating the transparency of corporate decisionmaking.  SeeDelta Kappa Epsilon Theta Chapter v. Theta Chapter House Corp., 661

A.2d 1152, 1153 n.2 (Me. 1995) (reciting general test for voting

trust); Me. Rev. Stat. Ann. tit. 13-A,  619 (West 1998)

(empowering shareholders to create voting trust).  This is more

than enough to establish the presumptive validity of the voting

trust.  Lichtenstein fails to refute this evidence or otherwise

demonstrate that, despite the unmistakable language of the Voting

Trust Agreement transferring to Fryer only the authority to vote

stocks, the incorporators actually effected a broader delegation of

ownership rights or other powers to Fryer. 

     Unable to establish a violation of Fryer's duty as voting

trustee or an independent legal relationship with Fryer,

Lichtenstein's claims necessarily fail.  We will not revive them.

                               III.

     We next consider Fryer's motion for Rule 11 sanctions,

reviewing the trial court's denial of the motion for abuse of

discretion.  See Salois v. Dime Sav. Bank of New York, 128 F.3d 20,

28 (1st Cir. 1997).  Rule 11 permits a court to impose sanctions on

a party or lawyer for advocating a frivolous position, pursuing an

unfounded claim, or filing a lawsuit for some improper purpose. 

See Fed. R. Civ. P. 11(b).  While a trial court's decision to

impose sanctions is given considerable latitude on appeal, a

court's determination is accorded "extraordinary deference" when it

has decided to deny sanctions.  Salois, 128 F.3d at 28.  This zone

of discretion is predicated on the understanding that trial courts

are in the best position to evaluate the intricacies of a case and

to reach conclusions about the motives of the parties and their

counsel.

     Although Fryer originally argued that Lichtenstein

brought the action in bad faith (a contention rejected by the

magistrate), he does not press that argument here.  Instead, he 

contends that the claims were objectively frivolous, and that they

certainly were shown to be "without evidentiary support" by the

time of Lichtenstein's deposition.  He faults two aspects of the

district court's decision in refusing to invoke its Rule 11 power:

that the court improperly evaluated the heft of the claims in light

of the full trial record rather than as it existed at the time of

the filing of the First Amended Complaint; and that the court

failed sufficiently to articulate its reasons for denying the

motion. 

     Whether a litigant breaches his or her duty to conduct a

reasonable inquiry into the facts and the law "depends on the

objective reasonableness of the litigant's conduct under the

totality of the circumstances."  Navarro-Ayala v. Nunez, 968 F.2d

1421, 1425 (1st Cir. 1992).  The factors to be assessed may include

"the complexity of the subject matter, the party's familiarity with

it, the time available for the inquiry, and the ease (or

difficulty) of access to the requisite information."  Id.

     Fryer argues that the court's frame of reference in

considering this question was skewed, directing our attention to

language in the court's decision indicating that it evaluated the

motion in light of "all the circumstances now known" at the end of

trial.  Of course, claims challenged as frivolous must be viewed

from the appropriate vantage point.  For instance, a party who

brings a suit without conducting a reasonable inquiry and based on

nothing more than a prayer that helpful facts will somehow emerge,

and who through sheer fortuity is rewarded for his carelessness, is

nevertheless vulnerable to sanctions.  See Garr v. U.S. Healthcare,

Inc., 22 F.3d 1274, 1279 (3d Cir. 1994) ("A shot in the dark is a

sanctionable event, even if it somehow hits the mark.").  In such

a case, it would be improper for the court to view the strength of

the case in hindsight.  But that is not what happened here.  

     In his Memorandum Decision and Order, Judge Carter did

signal that he believed he was in a superior position to assess the

strength of the case after conducting the bench trial.  But he also

stressed that "there was a reasonable basis for [plaintiff's

counsel] . . . to have been, in the beginning, suspicious of the

claimed disinterestedness of Fryer in his role on behalf of

Salterio."  It is perfectly reasonable to say, as the district

court did here, that the claims were not frivolous "at the

beginning," especially given the murky facts of the case, which

were so confused and "suspicious" that significant efforts were

required of the court to later sort them out.  Such an honest

observation does not mean that the court employed the wrong frame

of reference. 

     It was also entirely appropriate for the court to

consider the Rule 11 motion at the conclusion of the bench trial. 

Courts should, and often do, defer consideration of certain kinds

of sanctions motions until the end of trial to gain a full sense of

the case and to avoid unnecessary delay of disposition of the case

on the merits.  This is a sensible practice where the thrust of the

sanctions motion is that institution of the case itself was

improper.  See 5A Charles Alan Wright & Arthur R. Miller, Federal

Practice and Procedure  1337, at 121 (2d ed. 1990). 

     In all events, even when viewed at the time of the filing

of the First Amended Complaint, the claims were not so patently

frivolous that sanctions necessarily should have been imposed. 

Fryer's intermittent and arguably suspicious involvement by first

asserting that the Initial Employment Agreement was enforceable and

then advising that there was no corporation, coupled with the fact

that the legal status of the corporation itself was in doubt

throughout much of the litigation, counseled in favor of the

court's decision that the lawsuit against Fryer had sufficient

basis.  Although Fryer insists that Lichtenstein's own deposition

showed that the claims against Fryer were absolutely unfounded, we

take a different view.  Evidence of misconduct by Fryer, if it

existed, would not necessarily have been known by Lichtenstein. 

Moreover, in this case Lichtenstein's testimony did nothing to

detract from the existence or non-existence of such evidence;

during his deposition, he admitted neither to closing a blind eye

to facts that would tend to exculpate Fryer nor to filing suit

against Fryer for some improper reason.  Hence, Lichtenstein's

testimony did not demonstrate that the case against Fryer was

obviously groundless or that he or his lawyer failed to conduct a

reasonable inquiry into the facts before filing suit.  In view of

these circumstances, the trial court was well within its broad

authority to refuse to impose sanctions. 

     Fryer's fallback argument   namely, that the court's

explanations in turning down the fee request were so thin as to

preclude meaningful appellate review   likewise misses the target. 

The district court made perfectly clear what its reasons were for

denying the motion.  We have never required more than that the

court's rationale be apparent from the face of the record and

supported by the facts.  See Anderson v. Boston Sch. Comm., 105

F.3d 762, 769 (1st Cir. 1997).  Those conditions were met here.

                               IV.

     One last issue remains:  the matter of attorney's fees. 

The district court initially rebuffed the request of plaintiff's

counsel because Maine law, which embraces "the American Rule,"

requires litigants to pay their own fees in the absence of an

enforceable agreement or some statutory authorization of fee

recovery.  See Goodwin v. School Admin. Dist. No. 35, 721 A.2d 642,

646 n.8 (Me. 1998).  The court held that title 13-A,  634, which

expressly authorizes fees for stockholder derivative actions, was

enacted during the course of the litigation and did not

retroactively apply to this suit.  Lichtenstein's counsel does not

challenge that determination on appeal.

     Instead, he resorts to a creative alternative: that he is

entitled to fees carved out of a "common fund" achieved through

settlement.  This was a ground first mentioned in Lichtenstein's

reply papers below, but not explicitly addressed by the district

court.  We consider it now.

     Where a common fund is created to resolve multiple claims

in derivative or class actions, certain jurisdictions have allowed

fee awards to be drawn from the fund itself "to spread the burden

among the entire class of persons benefitted."  Catullo v. Metzner,

834 F.2d 1075, 1083 (1st Cir. 1987); see also In re Thirteen

Appeals Arising Out of the San Juan Dupont Plaza Hotel Fire Litig.,

56 F.3d 295, 305 n.6 (1st Cir. 1995).  Although Maine recently

joined those states that have recognized this equitable basis for

attorney's fees, see York Ins. Group of Maine v. Van Hall, 704 A.2d

366, 368 (Me. 1997) (expressly adopting common fund doctrine),

Lichtenstein's claim is undone by the fact that no common fund was

ever created in this case.  Each aggrieved individual reached a

separate settlement, and presumably paid his lawyer's fees from his

respective share of the settlement.  Moreover, while Lichtenstein

certainly deserves some credit for exposing the irregularities

surrounding CSG, none of the usual policy considerations motivating

invocation of the common fund exception   e.g., preventing unjust

enrichment where a large class of beneficiaries have benefitted

from the labor of another's counsel   are at work here.  There were

few shareholders involved, each gained a measure of satisfaction,

and each was represented by separate counsel.  We discern no free-

rider problem.  See Catullo, 834 F.2d at 1083 ("[T]he award of fees

under the common fund doctrine presupposes a large class of

beneficiaries who do not participate in the litigation.").  Under

the circumstances, we do not believe that Lichtenstein's attorney

is entitled to fees on this equitable basis.  

     Affirmed.  Each party shall bear its own costs.