Knutе SWANSON, Plaintiff-Appellant, v. AMERICAN CONSUMER INDUSTRIES, INC., United States Cold Storage Corporation and Peoria Service Company, Defendants-Appellees.
No. 17255.
United States Court of Appeals Seventh Circuit.
Aug. 13, 1969.
415 F.2d 1326
Richard Orlikoff, Arthur T. Susman, Chicago, Ill., Thomas V. Cassidy, Peoria, Ill., for plaintiff-appellant, Orlikoff, Prins, Flamm & Susman, Chicago, Ill., of counsel.
Edward J. Wendrow, Frank O. Wetmore II, John W. Stack, Chicago, Ill., Eugene L. White, Peoria, Ill., Winston, Strawn, Smith & Patterson, Chicago, Ill., Kavanagh, Scully, Sudow & White, Peoria, Ill., for defendants-appellees.
Before SWYGERT, CUMMINGS and KERNER, Circuit Judges.
Plaintiff, an Illinois resident, is a stockholder of defendant Peoria Service Company (“Peoria“), a dissolved Illinois corporation that formerly operated two cold storage warehouse facilities in Peoria, Illinois. His June 1965 complaint purports to be brought derivatively on behalf of Peoria and also on behalf of himself and all other similarly situated stockholders. In addition to the nominal defendant, Peoria, the complaint names as a defendant United States Cold Storage Corporation (“U. S. Cold“), a Delaware corporation owning 87% of Peoria‘s stock and operating cold storage warehouses elsewhere and also conducting an ice and fuel oil business. The third defendant is American Consumer Industries, Inc. (“ACI“), a diversified New Jersey corporation owning 90% of U. S. Cold stock and operating cold storage warehouses, manufacturing ice and sеlling a wide variety of consumer goods.
Alleging diversity of citizenship and asserting jurisdiction under the
The district court held that the action could not be maintained as a class action because the claims of the plaintiff were not “typical of the claims or defenses of the class” and because the class was not so numerous that joinder of all members was impracticable within the meaning of
The pertinent facts are disclosed in the district court‘s opinion which is reported in 288 F.Supp. 60. It appears that Peoria had 81,500 shares outstanding and had paid no dividends in recent years. Beginning in 1961, ACI acquired an 87% interest in Peoria through exchanging one share of ACI stock for each nine shares of Peoria stock and through purchasing additional shares at $3.00 per share. A year later, ACI sold its Peoria shares to U. S. Cold for the same price. After 1961, ACI elected a majority of the boards of directors of U. S. Cold and Peoria. Joseph S. Robinson was the chief exеcutive officer of the three companies.
The district court found that from 1961 through 1964, Peoria unsuccessfully attempted to obtain financing for a new cold storage warehouse facility. On March 11, 1965, ACI and Peoria entered into a reorganization plan providing for the transfer of substantially all of the assets of Peoria to ACI in return for 16,319 shares of ACI stock, stated to be worth “not less than $285,582.50,” and assumption of Peoria‘s liabilities. This exchange rаtio was one share of ACI for five shares of Peoria, and the reorganization plan was of course subject to the approval of Peoria stockholders.
A few days later, a notice of a special stockholders’ meeting was sent to Peoria‘s stockholders, calling for a March 31 meeting to consider the reorganization plan and the liquidation of Peoria thereunder.1 A copy of the reorganization plan was enclosed with the notice, along with a letter from Peoria‘s president. This letter outlined the proposed stock exchange ratio and mentioned that Peoria would be dissolved. The letter stated that Peoria‘s board recommended a favorable vote because:
(1) ACI stock is readily marketable, whereas Peoria stock is of a “relatively marketless nature“;
(2) ACI has been paying regular dividends, whereas Peoria “is unable to declare or pay a dividend“;
(3) Peoria‘s stockholders would become stockholders in a larger, more diversified corporation and would continue to participate in earnings attributable to Peoria‘s assets which, through ACI‘s greater financial resources, might be “modernized or rebuilt.”
The letter stated that a two-thirds vote was needed and that U. S. Cold owned 87% of Peoria‘s stock and would cast its stock in favor of аpproval. Peoria stockholders were also told that dissenting stockholders had appraisal rights under
At the stockholders’ meeting, plaintiff, with 3.3% interest in Peoria, orally voted his 2,703 shares against the reorganization plan and the dissolution of Peoria.2 However, U. S. Cold‘s 70,539 shares, together with 783 other shares, were voted in favor of both propositions, which were therefore declared adopted.
Peoria‘s assets were thereafter transferred to ACI and Peoria was dissolved on August 23, 1965. ACI sold Peoria‘s assets for a total of $254,231.50, and in September 1966 completed the building of a new cold storage warehouse in East Peoria, Illinois, for $1,318,581 (including land). ACI sold this property to U. S. Cold for its appraised value of $1,586,405 on June 30, 1967.
Pursuant to the reorganization plan, U. S. Cold‘s 70,539 shares of Peoria and 3,746 shares held by 60 other shareholders were exchanged for ACI shares. Including plaintiff, 40 shareholders, representing 7% of the outstanding shares of Peoria, failed to effect this exchange after receiving appropriate notice.3
Violation of the Securities Exchange Act and Rule 10b-5
The nub of the complaint is that defendants effected the exchange of Peoria‘s assets for ACI stock by means of deceptive proxy statements and the failure to reveal material information which would make the statements made not misleading to Peoria‘s minority shareholders. It is no longеr open to question that the exchange of shares in connection with a merger or sale of assets constitutes a “purchase or sale” within the meaning of
Peoria‘s board recommended that its stockholders vote in favor of approval of the reorganization plan, “being confident that it is fair to, and in the best interests of the [Peoria Service] Company and all its shareholders.” As in our recent decision in Mills v. Electric Auto-lite Co., 403 F.2d 429, 432 (7th Cir. 1968), certiorari granted, 394 U.S. 971, 89 S.Ct. 1470, 22 L.Ed.2d 752, “Although the proxy statement was, in form, addressed to all shareholders, it was, in realistic terms, intended fоr the minority shareholders.” The proxy materials did reveal that U. S. Cold owned 87% of Peoria and intended to vote its shares in favor of the sale, but it was not disclosed that the potential purchaser, ACI, was the parent of U. S. Cold and that Peoria‘s board, which purported to give disinterested advice to the minority shareholders, was comprised solely of ACI officers and directors. The conflict of interest of the Peoria directors was thus сoncealed, nor had it been disclosed in other proxy materials with respect to the March 31, 1965, shareholders’ meeting. As in Mills, supra, “the board was not free to state its recommendation and opinion favoring the merger without giving similar emphasis to the relationship between the directors and the other party to the bargain” (403 F.2d at p. 434).
Defendants urge that even if the proxy materials were deceptive and misleading, the reorganization plan would still have been approved in view of U. S. Cold‘s ownership of 87% of the Peoria stock. To support their argument that there is an absence of causation between the deception and the injury claimed, defend-ants rely primarily on Barnett v. Anaconda Co., 238 F.Supp. 766 (S.D.N.Y. 1965).5 That case was decided principally under Section 14(a) and was concerned with the existence of “but for” causation of a merger where the majority shareholder held more than the necessary number of shares to insure approval. See also Mills v. Electric Auto-lite Co., 403 F.2d 429, 435-436 (7th Cir. 1968), certiorari granted, 394 U.S. 971, 89 S.Ct. 1470, 22 L.Ed.2d 752. No deception of minority shareholders was alleged in thе complaint. Also, it appears from the opinion that Delaware law provided no appraisal remedy for dissenting shareholders in a sale of assets situation such as that involved in Barnett. The same is true of Adair v. Schneider, 293 F.Supp. 393 (S.D.N.Y. 1968), which relies on Barnett.
In the present case, on the other hand, we deal with a complaint under
Unlike Barnett, in the present case the minority shareholders were entitled to appraisal rights under Illinois law. It 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. Other minority shareholders who failed to vote for or against the plan may nevertheless have been lulled into sleeping оn their dissenters’ rights. We are not prepared to sanction a rule of causation which would presume that full disclosure to minority shareholders could have no transactional function in corporate affairs.6 Confronted by the objections and potentially expensive appraisal rights of minority shareholders, the directors of Peoria and their alter egos, ACI and U. S. Cold, might well have chosen to alter the plan of reorgаnization or abandon it entirely.7 “The vote is not legally predetermined simply because it seems practically predictable. * * * it is not legally possible to decide what legal consequences flow from the informational defects in the meeting by asserting that the meeting would have ended in the same resolutions no matter what the views or votes of the minority.” Laurenzano v. Einbender, 264 F.Supp. 356, 362 (E.D.N.Y.1966).
Nor does the presence of a controlling shareholder negative as a matter of law the possibility of injury to the corporation, which may be remedied by means of a derivative action. Here the allegations in the complaint amount to a charge that the corporation is being raided and its assets squandered in order that its principal shareholder might obtain for itself the business and corporate opportunities available and properly belоnging to the corporation. Cf. Dasho v. Susquehanna Corp., 380 F.2d 262, 270 (7th Cir. 1967) (concurring opinion), certiorari denied, Bard v. Dasho, 389 U.S. 977, 88 S.Ct. 480, 19 L.Ed.2d 470; Ruckle v. Roto American Corp., 339 F.2d 24, 29 (2d Cir. 1964). As. in Mills v. Electric Auto-lite Co., 403 F.2d 429, 435 (7th Cir. 1968), certiorari granted, 394 U.S. 971, 89 S.Ct. 1470, 22 L.Ed.2d 752, “there is an issue for trial with respect to the causal relationship between the deficiency in the proxy statement” and the Peoria sale.
Defendants next assert that no injury can be shown because any corporate opportunities or going concern value of which the Peoria shareholders might have been deprived is retained by them by virtue of their continuing equity position in ACI. The short answer is 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. Moreover, as recognized by the Supreme Court in SEC v. National Securities, Inc., 393 U.S. 453, 467, 89 S.Ct. 564, 21 L.Ed.2d 668, the fraudulent substitution of shareholder status in one company for the same status in another may cоnstitute a cognizable legal injury in and of itself.
It is also contended that Peoria‘s minority shareholders waived any rights under
Propriety of Class Suit
As noted earlier, the district court granted defendants’ motion to dismiss the class action on the grounds that (1) plaintiff‘s claim was not “typical of the claims of the class” and (2) the class was not so numerous that joinder of all members was impracticable. These are two of the four requisites for the maintenance of a class action under
We noted above that some minority shareholders may have accepted the offer as a result of the deception alleged, and that others may have failed to vote as a result of the notice, thus losing their right to seek appraisal for the fair value of their shares. The central question common tо all of the minority shareholders is that of deception, and in our opinion this issue outweighs the minor variations among the shareholders based on the degree of reliance upon the notice of meeting. See Green v. Wolf Corp., 406 F.2d 291, 300-301 (2d Cir. 1968). As there observed, the utility of
As to the district court‘s conclusion that this class was not sufficiently numerous to justify the use of the class device, we recently approved the maintenance of a class suit in a
Propriety of Derivative Action
Although defendants filed a motion to dismiss the derivative action, the district court‘s opinion did not pass upon that point, preferring to treat the motion as one for summary judgment. See 288 F.Supp. at p. 61. In this Court, the defendants have not pressed the derivative question. Nevertheless, we note that in Schoenbaum v. Firstbrook, 405 F.2d 215 (2d Cir. 1968) (en banc), the Second Circuit reaffirmed that a derivative action may properly be used to rectify a fraud upon a corporation where, as here, its directors are in a position of conflicting interest or loyalty and were aware that the transaction was grossly
Illinois Common Law Cause of Action
In addition to the claim under the federal securities laws, the complaint alleges a breach of fiduciary duty by defendants giving rise to an Illinois common law cause of action. The district court disposed of this point by stating that it was waived when plaintiff passed up his appraisal rights (288 F.Supp. at p. 64). Defendants seek affirmance on the theory that the appraisal right conferred by
We have considered plaintiff‘s contentions that the transfer to the Southern District of Illinois was improper and that he was not given a fair hearing below and deem them unpersuasive.
Reversed and remanded for trial.
SWYGERT, Circuit Judge (dissenting).
I would affirm for the reasons stated by the district judge in his opinion. Swanson v. Ameriсan Consumer Industries, 288 F.Supp. 60 (S.D.Ill.1968).