ANN M. MORRICAL, Individually and as Trustee, etc., Plaintiff and Respondent, v. JESSE ROGERS et al., Defendants and Appellants.
No. A137011
First Dist., Div. Five.
Oct. 10, 2013.
220 Cal. App. 4th 438
Ropes & Gray, Rocky Chiu-Feng Tsai, Michelle L. Visser, Howard S. Glazer, Douglas H. Hallward-Driemeier, Robert G. Jones; Gibson, Dunn & Crutcher, Daniel M. Kolkey, Thad A. Davis, Michael Li-Ming Wong, Enrique A. Monagas, Kyle A. Withers and Jenna Musselman Yott for Defendants and Appellants.
Reed Smith, Paul D. Fogel, Raymond A. Cardozo, Dennis P. Maio; Long & Levit, Joseph P. McMonigle, John B. Sullivan, Glen R. Olson; Cohen & Jacobson, Lawrence A. Jacobson and Sean M. Jacobson for Plaintiff and Respondent.
BRUINIERS, J.—Siblings Michael (Mike) McGraw, John McGraw and Ann M. Morrical are coequal shareholders of a group of family corporations.1 Disputes between the siblings over the management of these corporations led to conflicts and litigation. Mike and John (collectively the Brothers) then entered into a series of transactions with an outside management company and, over the objection of their sister, voted to restructure the corporate boards of directors, granting effective corporate control to the management company. Ann filed suit to challenge the election of new directors pursuant to
The primary issue presented in this appeal is whether an action brought under
We also conclude, however, that the trial court erred in failing to require that the Brothers be joined in this action as indispensable parties. We therefore do not address the merits of the judgment entered, but reverse and remand for further proceedings.
I. BACKGROUND
From the 1970‘s to the early 1990‘s, Jack McGraw, the father of Mike, John and Ann, built the McGraw Group of Affiliated Companies (McGraw Group), companies that originally specialized in the sale of motorcycle and watercraft insurance and later expanded to other lines of insurance. The McGraw Group is comprised of three principal companies: McGraw Company (McGraw), which is the managing agent that sells the insurance and retains a share of premiums; Western Service Contract Corporation
Jack and his wife, Joan, eventually transferred ownership in the Companies to their three children, Ann, John and Mike (collectively the Siblings). The Siblings were the sole and equal shareholders of the Companies.3 Under a “Buy and Sell Agreement,” each of the Siblings had a right of first refusal to purchase any other Sibling‘s Western shares at a discounted price before the shares could be sold to any third party. Section 7 of the agreement gave Jack and Joan a preemptive right to buy all of the Siblings’ Western shares at an even greater discount before the Siblings could sell all of their Western shares to a third party.
The Companies apparently have been successful.4 Between 1993 and 2011, each sibling received approximately $53.8 million in dividends and distributions from the Companies and, since about 2005, each sibling‘s monthly distribution has been approximately $385,000. Nevertheless, the Siblings have been in conflict for many years over management of the Companies.
A. 2009 Removal of Mike as Chief Executive Officer and Adoption of Phantom Stock Plans
In the mid-1990‘s, Mike took over as chief executive officer of the Companies. In about 2005, Mike moved to Southern California and became less involved in daily operations, which were left to the Companies’ long-term management team: Tim Summers, Brian McSweeney, David Sacks, and six others. Sacks (then chief financial officer) resigned in 2009, complaining that Mike was misusing corporate funds for personal expenses. At the request of Ann and John, an audit was conducted, which in Ann‘s view showed there was substantial abuse of corporate funds by Mike for personal use. Jack and Joan attempted to negotiate a resolution of the Siblings’ dispute and threatened to assign or sell their preemptive rights under section 7 of the Buy and Sell Agreement in order to pressure the Siblings to come to an agreement.
In November 2009, Ann and John voted to remove Mike as president and chief executive officer of the Companies and to remove Jack and two other
In February 2010, McGraw adopted phantom stock plans (PSP‘s) for nine of the Companies’ managers (including McSweeney, Summers and Sacks),5 which gave the managers immediately vesting equity interests in the Companies payable upon a change in control and which were designed as a retention and incentive tool. In the meantime, Jack and Joan sold Mike their preemptive rights under section 7 of the Buy and Sell Agreement for $400,000 (Section 7 Assignment). Litigation ensued.6
B. The Altamont Transactions
Defendant Altamont Capital Management, LLP (Altamont Management), is affiliated with Altamont Capital Partners, which is represented to be a private equity firm with $500 million in capital that focuses on investing in middle-market businesses that have not reached their full potential. Defendants Jesse Rogers and Keoni Schwartz were cofounders and managing directors of Altamont Capital Partners, and defendant Gene Becker was an operating partner. Rogers had personal connections with Mike. Becker had personal connections to Mike and Jack and had served as a Pacific director until he was removed along with Jack in November 2009.
In August 2011, Altamont Management proposed an investment relationship with the Companies that would involve the purchase of one or more of the Siblings’ shares in the Companies. About the same time, Altamont Capital Partners proposed a purchase of Mike‘s shares with investment funds it managed. In December, the Brothers discussed a sale of Mike‘s shares in the Companies to John that would be financed by Mike and an Altamont entity, with that entity receiving an interest in the appreciation of certain stock. All of these deals fell through.
1. Expansion of the Companies’ Boards
a. Amendments to Bylaws and Articles of Incorporation
The Brothers agreed to amend the bylaws and articles of incorporation of the Companies to increase the size of each board to eight directors and to adopt certain “shareholder protections.” The protections required approval by holders of a majority of the Companies’ stock before the Companies or a subsidiary could take certain actions, such as issuing new stock, incurring indebtedness greater than $25 million, or authorizing a merger or a sale of 40 percent or more of company assets outside of the McGraw Group.
b. Voting Agreement
Under a voting agreement, the Brothers agreed to vote their shares “to ensure that Altamont [Management] shall be entitled to designate five candidates to be elected as members of the Board of Directors of [the Companies]” and to maintain the size of each board at eight directors.
c. Indemnification Agreements
Indemnification agreements would be adopted for all directors.
2. Management Agreement
Under a management agreement, Altamont Management would provide McGraw, Western, and Pacific with management, consulting, financial and other advisory services for a fee of $500,000 a year. Altamont Management promised to “devote such time and efforts to the performance of services contemplated hereby as [Altamont Management] deems necessary or appropriate.” The agreement allowed Altamont Management and its affiliates to directly or indirectly engage in competing businesses and to withhold potential business opportunities from the McGraw Group and pursue those opportunities for its own or for other companies’ benefit.
a. Loans by Altamont California
Altamont California Investment LLC (Altamont California) would loan $4 million and $2 million to Mike and John respectively. The Brothers would sign nonrecourse promissory notes promising to repay these amounts with interest by March 13, 2019, and would pledge McGraw stock as collateral for the notes.
b. Cash Settled Stock Option Agreements (CSSOA‘s)
Mike and John would give Altamont California cash settled stock option rights in exchange for payments of almost $2 million and $1 million respectively. Under these agreements, Altamont California would recover a percentage of the difference between the fair market value and the stated “exercise price” for certain shares of Western and McGraw owned by the Brothers. The exercise price was based on a valuation in excess of $300 million for the companies. The option rights could be exercised at the end of a seven-year term, which was extendable by up to three years at the Brothers’ option.
c. Expense Agreement
Mike and John would pay Altamont California $1,805,000 and $645,000 respectively and amounts “equal to the fees and expenses reasonably incurred by [Altamont California] with respect to the [Promissory] Note[s]” (Expense Agreement).
d. Purchase of Section 7 Assignment
Mike would offer to sell Western the Section 7 Assignment for $500,000 to be paid to a charitable foundation designated by Jack and Joan.
C. March 12, 2012 Joint Board Meeting and Election of Altamont Directors
On March 12, 2012,7 after the trial court denied Ann‘s request to enjoin the board from adopting the Altamont Transactions, the joint board meeting took
D. Postelection Actions by Altamont Directors
1. Appointment of Chu as Chairman of the Boards
At a March 15, 2012 joint board meeting, the eight-member boards appointed Chu as chairman of each board (replacing John at Western and Ann at McGraw). Chu earned $200,000 a year for serving in this position, plus an annual bonus of $100,000 that was guaranteed the first year and awarded at the boards’ discretion thereafter. Cohen signed Chu‘s contract.
2. Creation of the Executive Committee
At the same meeting, the directors created an executive committee of each board to deal with issues delegated to them by the full boards. Chu, Becker and Schwartz were appointed to these committees, which apparently functioned as a single body (hereafter the Executive Committee).9 The boards then authorized the Executive Committee to do the following: consider updates to the Companies’ bylaws; consider the sufficiency of controls over key company functions including cash handling, accounts payable, and regulatory communication; take any action with respect to the PSP Action deemed necessary and in the best interest of the Companies; review the performance of managers who were beneficiaries of the PSP‘s and then take any action necessary, including changing personnel; and consider the composition of the Pacific board and take actions consistent with its findings.
In April 2012, the Executive Committee decided to reimburse Mike for the legal fees he had incurred in the PSP Action since March 1, which covered the period after Mike said he wanted to dismiss the case. At the time of trial in the instant matter, no reimbursement had been made.
4. Termination of McSweeney and Sacks; Hiring of Cohen
In May 2012, the Executive Committee removed McSweeney from his officer positions at McGraw and Western and terminated Sacks. McSweeney reached a settlement with the Companies regarding his rights under the PSP‘s, which apparently were terminated by the Executive Committee. At the time of trial, Cohen was also trying to negotiate a new contract with Summers that would replace the PSP‘s with a new management incentive plan.
Cohen was made chief executive officer of McGraw, Western and Pacific. In Ann‘s view, Cohen took over McSweeney‘s position. Cohen‘s base salary was set as the same level as Summers‘s salary ($550,000 a year), but his potential bonuses were greater and were guaranteed for the first year. Cohen also participated in a “Senior Management Incentive Program” that gave him a 4 percent interest in the McGraw Group if it was sold for more than $300 million. Chu signed Cohen‘s contract.
5. Changes in Pacific Board of Directors
In May 2012, the Western board removed McSweeney and Summers as directors of Pacific and elected the Altamont Directors to the Pacific board.
6. Retention of Mayer Brown
According to Ann, the Executive Committee retained the Mayer Brown law firm and its partner, James Woods (a friend of Mike and Jack), to represent the Companies at a cost of $1 million.
E. Section 709 Action
On May 2, 2012, Ann (both individually as a shareholder and derivatively on behalf of McGraw and Western) sued Altamont Management and the Altamont Directors (collectively Altamont) pursuant to
Altamont moved for judgment on the pleadings and argued, inter alia, for dismissal of the action because the Brothers had not been joined. The trial court (Hon. Barbara J. Mallach) denied the motion.11 Trial took place on seven days between June 27 and July 19, 2012. At the conclusion of trial, the court granted the parties’ request for a delay in its ruling so that settlement efforts could continue. On October 4, 2012, with a settlement still not achieved, the court issued an oral ruling from the bench: “The plaintiff has the burden of proving the election of the challenged board of directors was invalid. . . . [T]he [plaintiff‘s] position is that the voting board of directors had an interest due to financial dealings; or in essence, were not uninterested. [¶] And the plaintiff‘s position is that then the burden shifts to the defense to show . . . that the actions were just and reasonable to the company. . . . [¶] . . . [T]he Court has found that the plaintiff has met [her] burden . . . . [¶] . . . [T]he defendant[s] did not meet their . . . burden in [showing] that the actions were just and reasonable to the company. [¶] So therefore, . . . the Court is ruling in favor of plaintiff invalidating the election . . . and invalidating the transfer of managerial control.”
The court did not issue a statement of decision, noting that the parties had agreed on the record that one would not be required.12 The written judgment declared the March 12, 2012 election of the Altamont Directors invalid; prohibited those persons from acting as directors for McGraw and Western, members of the Executive Committee, or managers of the companies; and set aside “all acts purportedly taken by [the defendants] ostensibly on behalf of the Companies to facilitate, implement or effectuate the Invalid Election . . . . In particular, the following actions purportedly taken in connection with, or as a result of, the Invalid Election are adjudicated to be invalid and unenforceable“: expansion of the boards; appointment of the Altamont Directors as directors of McGraw, Western and Pacific; adoption of the management and indemnification agreements; removal of Ann as chairman of the
On November 8, 2012, we granted Altamont‘s petition for a writ of supersedeas and stayed enforcement of the trial court‘s judgment pending resolution of this appeal (Rogers v. Superior Court (Nov. 8, 2012, A137001)).
II. DISCUSSION
A. Available Grounds for a Section 709 Action
The primary issue on appeal is whether the conflict of interest and breach of fiduciary duties raised by Ann as the grounds for her challenge to the election are proper grounds for a
The interpretation of a statute and the resolution of a constitutional due process issue are questions of law, which this court examines independently. We are not bound by the trial court‘s construction. (People ex rel. Lockyer v. Shamrock Foods Co. (2000) 24 Cal.4th 415, 432 [101 Cal.Rptr.2d 200, 11 P.3d 956]; Griffiths v. Superior Court (2002) 96 Cal.App.4th 757, 768 [117 Cal.Rptr.2d 445].) Our primary objective in interpreting a statute is to determine and give effect to the underlying legislative intent. (
“(b) Upon the filing of the complaint, and before any further proceedings are had, the court shall enter an order fixing a date for the hearing, which shall be within five days unless for good cause shown a later date is fixed, and requiring notice of the date for the hearing and a copy of the complaint to be served upon the corporation and upon the person whose purported election or appointment is questioned and upon any person (other than the plaintiff) whom the plaintiff alleges to have been elected or appointed. . . .
“(c) The court may determine the person entitled to the office of director or may order a new election to be held or appointment to be made, may determine the validity, effectiveness and construction of voting agreements and voting trusts, the validity of the issuance of shares and the right of persons to vote and may direct such other relief as may be just and proper.”
It is well established that
1. Plain Language of the Statute
Contrary to Altamont‘s arguments, nothing in the plain language of
Altamont argues the summary procedures set forth in subdivision (b) imply that the grounds for a
2. Context of Statutory Scheme
Altamont argues that the placement of
Altamont argues that the legislative history of
Altamont argues the legislative history “shows that lawmakers, over the decades, increasingly tightened the language and scope of the statute to focus on the corporate electoral process.” It first notes that the earliest versions of the statute allowed plaintiffs to challenge not only elections and appointments of directors, but also any “proceeding, act, or matter in or touching the same,” whereas the current statute only permits challenges to elections and appointments of directors. (Compare Civ. Code, former § 315 [Stats. 1850–1853, ch. 78, § 15, p. 283 (authorizing action when any aggrieved person “complain[ed] of any election held by any corporate body, or any proceeding, act, or matter in or touching the same“) & Stats. 1931, ch. 862, § 2, pp. 1763, 1779 (authorizing action to challenge “the election or appointment of a director at a meeting of shareholders or directors“)] with
Altamont observes that early versions of the statute allowed any aggrieved person to bring an action, whereas the current statute only allows shareholders and those claiming they were denied their right to vote to bring an action. (Compare Civ. Code, former § 315 [Stats. 1850–1853, ch. 78, § 15, p. 283 (any aggrieved person) & Stats. 1931, ch. 862, § 2, pp. 1763, 1779 (shareholder)] with
Finally, Altamont argues that the references to specific remedies in subdivision (c) of the current statute,
We are more persuaded by the following consistent features of the statute throughout its legislative history: (1) the court is empowered to determine the validity of a corporate election with no express restriction on the grounds on which the validity could be challenged; (2) the determination must be made promptly and in a summary procedure; and (3) the court‘s remedial powers are equitable and broad. (See Civ. Code, former § 315 [Stats. 1850–1853, ch. 78, § 15, p. 283; Code Amends. 1877–1878, ch. 639, § 1, p. 79; Stats. 1901, ch. 157, § 74, p. 348; Stats. 1905, ch. 416, § 9, p. 560; Stats. 1931, ch. 862, § 2, pp. 1763, 1779; Stats. 1933, ch. 533, § 23, p. 1371]; Corp. Code, former §§ 2236–2238 [Stats. 1947, ch. 1038, pp. 2347–2348];
4. Case Law
Altamont implies that the case law addressing
Another division of this court directly addressed the question of what issues may appropriately be raised in a
In Boericke, the court held that a trial court may determine the validity of a voting trust agreement insofar as it affects an election, but may not decide “matters which relate solely and exclusively to the rights of the stockholders between themselves, or between themselves and third persons.” (Boericke v. Weise, supra, 68 Cal.App.2d at pp. 418–420 (Boericke).) Boericke also held that the equitable defenses of estoppel and unclean hands could properly be raised in the
Moreover, courts in exercising their equitable powers in
In Smith v. California Thorn Cordage, Inc. (1933) 129 Cal.App. 93, 98 [18 P.2d 393] (Smith), the court determined the legality of an underlying contract in order to resolve a
In Kauffman v. Meyberg (1943) 59 Cal.App.2d 730, 733–734 [140 P.2d 210], the court looked behind an ostensible irregularity in the issuance of a
In Braude, supra, 38 Cal.App.3d at page 529, another division of this court ruled an election invalid under former
Insofar as breach of fiduciary duty claims affect the validity of an election, they are within the scope of the trial court‘s authority in deciding a
5. Due Process Concerns and Summary Proceedings
As explained in Boericke,
Altamont argues that, in the context of breach of fiduciary duty or conflict of interest claims, a
Altamont further argues the summary nature of the
Altamont argues more specifically that it was wrongfully denied discovery in this action: “[T]he trial court . . . overrul[ed] Defendants’ request for even limited discovery. [Citation.] Thus, Defendants had no opportunity to request documents or propound interrogatories to explore Plaintiff‘s legal and factual theories. There were no depositions of experts.18 . . . Plaintiff also introduced volumes of exhibits stretching back over a decade, which Defendants, as newcomers to the family drama, were in no position to rebut.” Altamont, however, does not cite evidence in the record that it ever requested additional time for discovery before trial; it simply cites a statement by counsel on the first day of trial that no discovery had been conducted. Altamont‘s protest that, as a stranger to the McGraw family drama, it was unable to prepare adequately for trial with limited time is also unpersuasive in light of the record. In sum, Altamont cites no specific prejudice it faced at trial due to the alleged denial of discovery, and our extensive review of the trial record revealed none. Altamont fails to demonstrate either that the trial court abused its discretion in denying it discovery or that its due process rights were violated.19
While rejecting the specific claims advanced by Altamont on the record before us, we do not lightly dismiss the due process concerns Altamont more broadly raises. Nor do we disagree that sometimes complex factual disputes, not readily amendable to summary proceedings, may require resolution when issues such as breach of fiduciary duty underlie the electoral contest. A summary trial of complex issues without the discovery and preparation available in ordinary civil actions may indeed result in a denial of a party‘s substantive procedural rights and the constitutional right to due
6. Conclusion
In sum, we find no basis to infer an unwritten limitation on the scope of an action under
B. Indispensable Parties
Altamont argues the judgment must be reversed because the Brothers were indispensable parties who were not joined in the action in violation of
“Whether a party is necessary and/or indispensable is a matter of trial court discretion in which the court weighs ‘factors of practical realities and other considerations.’ [Citations.]” (Hayes v. State Dept. of Developmental Services (2006) 138 Cal.App.4th 1523, 1529 [42 Cal.Rptr.3d 363].) We review a trial court‘s determinations under
As noted ante, Altamont sought dismissal of the action because the Brothers had not been joined, albeit without significant discussion or elaboration on the issue until after the court had pronounced its judgment. The court denied the pretrial dismissal request without explanation.
Altamont argues the Section 709 Action would impair or impede the Brothers’ ability to protect specific interests: the Brothers’ interest in defending their March 2012 votes as directors, which authorized corporate changes that they believed would enhance the value of the companies; Mike‘s interest in the board‘s directive that the Executive Committee consider reimbursing
or should be dismissed without prejudice, the absent person being thus regarded as indispensable. The factors to be considered by the court include: (1) to what extent a judgment rendered in the person‘s absence might be prejudicial to him or those already parties; (2) the extent to which, by protective provisions in the judgment, by the shaping of relief, or other measures, the prejudice can be lessened or avoided; (3) whether a judgment rendered in the person‘s absence will be adequate; (4) whether the plaintiff or cross-complainant will have an adequate remedy if the action is dismissed for nonjoinder.” Here, there was never a contention that Mike and John could not be joined as parties. Ann concedes in her briefing that the Brothers were amendable to service of process in California. The history of litigation between the Siblings in the San Mateo County Superior Court, including the PSP Action and the Altamont Contract and Tort Action, further confirms that Ann could have joined the Brothers had she wished to do so.
Ann counters that she sought no relief from her brothers, and since nothing in the court‘s judgment adjudicated their rights, they were not indispensable parties. But Ann ignores the theory upon which her case was grounded, the factual predicates necessary for the court to render judgment in her favor, and the consequences of the judgment.
Ann challenged the March 12, 2012 election on the ground that it was part of a series of transactions in which the Brothers breached their fiduciary duties as directors and majority shareholders toward the corporation and her, the minority shareholder. Ann‘s complaint alleged that the Brothers were disqualified from voting because they were “personally and materially financially self-interested in the subject matter of the [decision to expand the board, the election of the Altamont Directors, and the adoption of the management and indemnification agreements], and were thereby conflicted and disqualified with respect to the voting therefor.” The self-interest allegedly arose from the provision of $4 million and $2 million loans, and payment under the CSSOA‘s of almost $2 million and $1 million, to Mike and John respectively. The complaint alleged that these financial benefits were conditioned on the Brothers’ agreement to elect the Altamont Directors, adopt the management agreement, and allow Altamont to exercise control over the day-to-day operations of the Companies. Thus, the complaint alleged that the Altamont Transactions—including the amendments to the bylaws and articles of incorporation expanding the boards, the voting agreement, the indemnification and management agreements, the loans, and the CSSOAs—collectively rendered the election invalid. Specifically, Ann argued they rendered the election invalid under
Further, Ann‘s opening trial brief provided a “summary of basis for relief” in the action: “this statutory action under . . .
It was, therefore, the Brothers’ alleged self-interest and breach of fiduciary duty to Ann and to the Companies that formed the necessary predicate for Ann‘s challenge to the election. And the trial court ultimately determined, in invalidating the election, that the Brothers had a disqualifying interest “due to financial dealings.” Wholly aside from any reputational interest which the Brothers may have had at stake, the consequence of the court‘s finding was not only to invalidate the election of the Altamont Directors but to declare “invalid and unenforceable” the adoption of the management and indemnification agreements. While the court did not directly set aside the loans or pledge agreements, the CSSOA‘s, or the voting agreement, Ann‘s own complaint alleged the interrelationship of the Altamont Transactions and that the financial benefits of the loans and the CSSOA‘s were conditioned on the Brothers’ agreement to elect the Altamont Directors, adopt the management agreement, and allow Altamont to exercise control over the day-to-day operations of the Companies. Under Ann‘s theory of the case, the consideration Altamont received for the financial benefits provided to the Brothers was rendered a nullity, impairing or impeding the Brothers’ ability to protect their interests in the remaining Altamont Transactions (and leaving Altamont subject to a substantial risk of incurring inconsistent obligations by reason of the Brothers’ claimed interests).
“[I]n determining whether an unjoined person is an indispensable party, potential prejudice to that unjoined person is of critical importance.” (Tracy Press, Inc. v. Superior Court (2008) 164 Cal.App.4th 1290, 1298 [80 Cal.Rptr.3d 464]; see Lungren, supra, 56 Cal.App.4th at p. 880 [holding that analysis of whether a judgment rendered in a party‘s absence might be prejudicial to the absent party or the appearing defendants is “essentially the same assessment” that must be made under
C. Other Issues
Because we find indispensable parties were not joined and reverse on that basis, we need not address the court‘s rulings on the merits of the controversy and express no opinion on those issues.
III. DISPOSITION
The judgment is reversed and the matter is remanded with instructions that the trial court require that plaintiff Ann Morrical name and serve Michael McGraw and John McGraw as parties to this action, or dismiss this action if she fails to do so. Each party shall bear its own costs on appeal.22
Jones, P. J., and Needham, J., concurred.
Appellants’ petition for review by the Supreme Court was denied January 21, 2014, S214723.
Notes
In the meantime, Ann sued Mike, Altamont Capital Partners, and Altamont Management for breach of contract, breach of fiduciary duty, and interference with contract relations based in part on allegations that the Altamont Transactions violated the Buy and Sell Agreement and Mike‘s fiduciary duties (Morrical v. McGraw (Super. Ct. San Mateo County, 2012, No. CIV512421) (hereafter the Altamont Contract and Tort Action)).