Swanson v. American Consumers Industries, Inc.

475 F.2d 516, 1973 U.S. App. LEXIS 11300

• Court: Court of Appeals for the Seventh Circuit
• Decided: March 6, 1973
• Docket: No. 71-1639
• Status: Published

Opinions

CUMMINGS, Circuit Judge.

Plaintiff is a stockholder of defendant Peoria Service Company (Peoria), a dissolved Illinois corporation that formerly operated two cold storage warehouse facilities in Peoria, Illinois. The complaint was brought derivative!y on behalf of Peoria and also on behalf of plaintiff and all other similarly situated stockholders. In addition to the nominal defendant, Peoria, the complaint named as defendants United States Cold Storage Corporation (U.S. Cold), which owns 87 per cent of Peoria stock, and American Consumer Industries, Inc. (ACI), which owns 90 per cent of U.S. Cold stock. Plaintiff sought to rescind a 1965 reorganization agreement between Peoria and ACI which provided for the transfer of substantially all of Peoria’s assets to ACI, an exchange of Peoria stock for ACI stock, and the liquidation of Peoria and to recover damages allegedly sustained by Peoria. The complaint asserted that the reorganization plan and related activities involved manipulative and deceptive devices and that the proxy materials were misleading and omitted to state material facts, in violation of Section 10(b) of the Securities Exchange Act (15 U.S.C. § 78j(b)) and Rule 10b-5 thereunder (17 C.F.R. § 240.-10b-5). Liability was also asserted under Illinois common law.

In August 1968, the trial court entered summary judgment for defendants. 288 F.Supp. 60. We reversed and remanded for trial, Judge Swygert dissenting. 415 F.2d 1326. After trial, the district court again rendered judgment for defendants. 328 F.Supp. 797. After setting forth 52 findings of fact, the court held that plaintiff must prove a causal relationship between the deceptive material and the Peoria sale, or that there was reliance upon the deceptive material and that the corporation or its shareholders were injured as a proximate result of the material. The court concluded that plaintiff had failed “to prove the fact of reliance by anyone, any causal relationship between any defects in the proxy material and the Peoria sale, or that either Peoria or its shareholders sustained any injury.” 328 F.Supp. at 807.

In urging reversal, plaintiff first asserts that proof of a materially defective proxy statement used in connection with a transaction is sufficient to show a causal relationship between the violation and the transaction. Plaintiff also urges that he is entitled to relief under the common law of Illinois. Accordingly, plaintiff insists upon rescission, restitution, or other suitable relief, plus an award of attorneys’ fees. Since the facts are fully stated in our prior opinion and in the two opinions below, they will not be restated herein.

Subsequent to our first opinion in the case, the Supreme Court rendered its opinion in Mills v. Electric Auto-Lite Co., 396 U.S. 375, 90 S.Ct. 616, 24 L.Ed.2d 593, reversing 403 F.2d 429 (7th Cir. 1968). In that case the plaintiffs complained that the wrong accomplished through the use of a materially false or misleading proxy statement was the effectuation of a corporation merger. The Court held that if the proxy solicitation was an essential link in the accomplishment of the transaction, a showing of materiality in the misstatement or omission of that proxy was sufficient to establish a causal relationship between, the proxy statement and the merger. 396 U.S. at 384-385, 90 S.Ct. 616. However, in Mills approval of a substantial number of minority shareholders was essential to the accomplishment of the merger. 396 U.S. at 379, 90 S.Ct. 616. In this case, ACI through U.S. Cold controlled a sufficient number of shares to approve the transaction without any votes from the minority. It was precisely in such a case that the Supreme Court refrained from deciding whether merely by demonstrating materiality, causation would be shown between the false or misleading proxy statement and the accomplishment of the merger. 396 U.S. at 385 n. 7, 90 S.Ct. 616.

Insofar as plaintiff claims the merger itself was the injury, it may be that since ACI controlled a sufficient amount of shares to approve the merger regardless of the minority vote, causation between the deception and the injury has not been established. Laufer v. Stranahan, Jr., CCH Fed.Sec.L.Rep. ¶ 92,617 (S.D.N.Y.1970).² Nevertheless, assuming (without deciding) causation is ipso facto established by a showing of materiality even in this situation, unscrambling the merger would be an in-. appropriate remedy in this case.

The Supreme Court expressly reiterated this Court’s statement in our decision in Mills that “nothing in the statutory policy ‘requires the court to unscramble a corporate transaction merely because a violation occurred.’ ” 396 U.S. at 386, 90 S.Ct. at 622, quoting from 403 F.2d at 436. Further, the Supreme Court directed that in fashioning retrospective relief, “the federal courts should consider the same factors that would govern the relief granted for any similar illegality or fraud” and that “[o]ne important factor may be the fairness of the terms of the merger.” 396 U.S. at 386, 90 S.Ct. at 622. Here the lower court found that “the exchange ratio of five shares of Peoria stock for one share of ACI stock, which was established in the plan, was fair and reasonable to Peoria, to ACI, and to the shareholders of both.” 328 F.Supp. at 807. We cannot say that this finding, supported by particularized factual findings largely based on credibility determinations, was “clearly erroneous” within the meaning of Rule 52(a) of the Federal Rules of Civil Procedure. Moreover, the lower court concluded that to require unscrambling “would be a grave injustice to the other shareholders of ACI.” Id. Insofar as plaintiff shareholders seek relief in their derivative status, “while they do have a derivative right to invoke [Peoria’s] status as a party to the agreement, a determination of what relief should be granted in [Peoria’s] name must hinge on whether setting aside the merger would be in the best interests of the shareholders as a whole.” Mills, supra, 396 U.S. at 388, 90 S.Ct. at 623. The district court, exercising “the sound discretion which guides the determinations of courts of equity,” (id. at 386, 90 S.Ct. at 622), made the foregoing finding that setting aside the merger would not be in the best interests of all shareholders, and we are not inclined to find an abuse of that discretion.

With respect to any monetary recovery to the plaintiff shareholders predicated on the terms of the merger, we will again assume that a causal connection is established between the false or misleading proxy statements and accomplishment of the merger. But as in Dasho v. Susquehanna Corp., 461 F.2d 11, 30 (7th Cir.), certiorari denied, 408 U.S. 925, 92 S.Ct. 2496, 33 L.Ed.2d 336 (1972), although this “would seem to require a finding of ‘legal injury’ caused by the violation, in this case that injury may not include any pecuniary loss.”

Applying the analysis of Dasho, approval of the sale of assets and reorganization caused plaintiff shareholders “monetary injury only if (a) [Peoria] would have been better off with no merger at all; or (b) a more favorable exchange ratio would have been available if there had been full disclosure.” Id. at 31. The district court found that “Peoria, during and prior to ACI control, was not a viable entity; that Peoria was unable, financially, to exploit the market available to it and unable to obtain such financing as was necessary for conversion of the corporation into a viable entity.” 328 F.Supp. at 806. This finding is supported by ample evidence, and hence it is clear Peoria would not have been better off with no merger at all. As to the availability of a more favorable exchange ratio upon full disclosure, there was simply a failure of evidence to support a monetary recovery. What suffices to show causation of a legal injury — the merger- — does not automatically show plaintiffs suffered compensable monetary injury. “[D]amages should be recoverable only to the extent that they can be shown.” Mills, supra, 396 U.S. at 389, 90 S.Ct. at 624.

When this case was before us previously, the defendants contended that no injury could be shown because any corporate opportunities or going concern value of which Peoria shareholders might have been deprived are retained by them by virtue of their continuing equity position in ACI. We responded that “if the allegations of the complaint are proved, the Peoria shareholders were entitled to a more favorable exchange ratio than they were granted and may have had their equity position unfairly diluted.” 415 F.2d at 1332. But the allegations of unfairness in the complaint were not proved. The district court found that ACI paid full reasonable value for Peoria’s assets and that the exchange ratio of five shares of Peoria stock for one share of ACI stock was fair and reasonable to Peoria and its shareholders. 328 F.Supp. at 807. This is a case where monetary relief is appropriately “predicated on a determination of the fairness of the terms of the merger at the time it was approved.” Mills, supra, 396 U.S. at 389, 90 S.Ct. at 624. The lower court having concluded that the terms of the merger were fair and reasonable at the time of the transaction, and we having concurred with that conclusion, the plaintiffs are not entitled to a retrospective revision of the merger terms.

Whether or not causation should be taken as established between the deceptive proxy statement and consummation of the merger, causation between the proxy statement and other injury claimed to have been suffered stands on an entirely different footing. As we said in our prior opinion, “The power to effect a given result certainly does not negative all possibility of injury resulting from the fraudulent or manipulative use of that power.” 415 F.2d at 1331-1332. Particularizing the possibility of injury, we stated “[i]t may well be that the misstatements and omissions contained in the proxy statements caused some Peoria shareholders to approve the sale, thus losing their statutory appraisal remedies.” 415 F.2d 1332.³ See 111. Rev.Stat.1971, Ch. 32, § 157.73. Operating under this Court’s decision in Mills v. Electric Auto-Lite Co., 403 F.2d 429 (7th Cir. 1968), we remanded the ease for a factual determination of whether a causal relationship existed between the deficiency in the proxy statement and the loss of statutory appraisal rights. Under the Supreme Court’s decision in Mills, causation and reliance are no longer factually-to-be-proven predicates to recovery. As most recently stated by a unanimous Supreme Court in Affiliated Ute Citizens v. United States, 406 U.S. 128, 153-154, 92 S.Ct. 1456, 1472, 31 L.Ed.2d 741:

“Under the circumstances of this case, involving primarily a failure to disclose, positive proof of reliance is not a prerequisite to recovery. All that is necessary is that the facts withheld be material in the sense that a reasonable investor might have considered them important in the making of this decision. See Mills v. Electric Auto-Lite Co., 396 U.S. 375, 384 [90 S.Ct. 616, 621, 24 L.Ed.2d 593] (1970); SEC v. Texas Gulf Sulphur Co., 401 F.2d 833, 849 (C.A.2 1968), cert. denied sub nom. Coates v. SEC, 394 U.S. 976 [89 S.Ct. 1454, 22 L.Ed.2d 756] (1969); L. Loss, Securities Regulation, 3876-3880 (1969 Supp. to 2d ed. of Vol. 3); A. Bromberg, Securities Law, Fraud—SEC Rule 10b-5, pts. 2.6 and 8.6 (1967). This obligation to disclose and this withholding of a material fact establish the requisite element of causation in fact.”⁴

Thus the plaintiff sellers who were defrauded in that case were entitled to damages measured by the difference between the fair value of what they received and the fair value of what they would have received had there been no fraudulent conduct. 406 U.S. at 155, 92 S.Ct. 1456.

Consequently, it is inescapable that plaintiff shareholders have proven all the elements required to impress liability on defendants under Section 10(b) of the Securities and Exchange Act and the Commission’s Rule 10b-5 for loss of their informed ability to exercise their statutory appraisal rights. In such a posture the appropriate remedy is to restore to the plaintiff shareholders the opportunity to receive cash rather than ACI shares. Therefore, ACI must offer to each Peoria shareholder $3.55, the market value attributed to Peoria stock in the reorganization plan, for each share of Peoria stock held by such shareholder on March 31, 1965, together with legal interest from that date to the date judgment is entered by the district court. Any minority shareholders who exchanged Peoria shares must, of course, return an equivalent number of ACI shares exchanged in order to receive the cash. Plaintiff is also entitled to reimbursement of reasonable attorneys’ fees in an amount to be fixed by the district court, of course taking into consideration the modest recovery achieved, but cognizant that pecuniary benefit is not the sole criterion for the award of attorneys’ fees. See Mills v. Electric Auto-Lite Co., supra, 396 U.S. at 389-397, 90 S.Ct. 616; Dillon v. Berg, 351 F.Supp. 584 (D.Del.1972).

With respect to plaintiff shareholders’ claim that they are entitled to recover under the common law of Illinois for defendants’ purported breach of their fiduciary duties, the lower court concluded that the defendants “sustained their burden of proving that the transaction was a good faith and entirely fair effort by defendants and their officers and directors to relieve all the shareholders of Peoria from the consequences of its impending failure and to enable all such shareholders to participate equitably and ratably in the exploitation of the cold storage market available in the area.” 328 F.Supp. at 807. Because we find no adequate reason to set aside the factual findings underpinning the conclusion that defendants have not breached their fiduciary duties under Illinois laws, we affirm that conclusion,.

Since a further trial of this action is not required, Rule 23 of this Court is inoperative, and the case will therefore not be reassigned to another judge.

Finally, it is ordered that (1) costs in this Court are taxable against the defendants; (2) the trial court’s order allowing costs against plaintiff is reversed; and (3) costs in the trial court should be awarded to the plaintiff in an amount to be determined by that court.

Reversed and remanded for further proceedings not inconsistent herewith.

2 . Compare the dictum in Laurenzano v. Einbender, 448 F.2d 1, 5 (2d Cir. 1971) and see the Supreme Court’s discussion in Mills, 396 U.S. at 385 n. 7, 90 S.Ct. 616. Our prior opinion cannot be taken as intimating any view on this question. We were careful to distinguish between the situation where the merger itself was the alleged injury and the situation where other injury to the shareholders or the corporation is claimed to have resulted from the use of deceptive devices proscribed by Rule 10b-5. 415 F.2d at 1331.

One rationale for finding causation in a control situation would appear to be that if the majority finds it necessary for legal or practical reasons to solicit proxies from minority shareholders, it is possible that a full and accurate proxy statement disclosure could have enabled minority shareholders to take some action prompting the controlling shareholders to abandon the merger plan or alter its terms. Whether this possibility should per se be enough to support a finding of causation as a matter of law is questionable. In some cases this possibility will have little or no foundation in reality. While a determination that a misstatement or omission in a proxy statement is material “indubitably embodies a conclusion that the defect was of such a character that it might have been considered important by a reasonable shareholder who was in the process of deciding how to vote” (Mills, supra at 384, 90 S.Ct. at 621), it hardly embodies a conclusion that the non-controlling minority might have somehow, apart from their voting power, prevented the merger from taking place on the terms proposed. Even if it is salutary to presume they could, it is further questionable whether such a presumption would be justified in the face of proof by the defendants that the merger was fair and meritorious. While it may be “a dubious behavioral assumption * * * that the shareholders of every corporation are willing to accept any and every fair merger offer put before them” (id. at 382 n. 3, 90 S.Ct. at 620), it may be more dubious to assume that minority shareholders whose votes are unnecessary to the effectuation of a merger would have some extra-proxy power to prevent or alter the terms of a merger which the majority has proven was fair and had merit.

Another rationale would be to posit that statutory purpose requires that the orthodox standard of causation in tort law should be cast aside entirely. While this position may have merit, it requires a court to go so far as to ignore the corporate power structure and the fairness and merit of a transaction effectuated by those in control whenever a defective proxy statement is used, and it is not so clear that these factors are undeserving of consideration on the causation issue.

3 . We also stated that the presence of a controlling shareholder does not “negative as a matter of law the possibility of injury to the corporation, which may be remedied by means of a derivative action”, and we noted plaintiff’s allegations that Peoria was being raided and its assets squandered while its principal shareholder usurped Peoria’s corporate opportunities. 415 F.2d at 1332. But the district court justifiably concluded these allegations were not sustained. The trial judge found Peoria incapable of embracing the corporate opportunities alleged to have been usurped and specifically found no evidence was adduced to substantiate the allegations of raiding and squandering Peoria’s assets. Indeed, he found quite the contrary of the allegations to be fact.

4 . Mr. Justice Douglas joined in this part of the opinion, although he dissented from the holding that there was no liability on the part of the United States.