64 N.J. Eq. 673 | New York Court of Chancery | 1903
The basis of any preliminary injunction in this case must be found in some legal or equitable right of the complainants, as stockholders of the Prudential Insurance Company, to prevent their trustees, the Prudential directors, from injuring them by a violation of fiduciary duty. The interesting scheme above set forth for the exercise of all the powers of these two great corporations by a perpetual and self-perpetuating syndicate has received the approbation of the boards of directors of both companies. But no stockholder of the Fidelity company is before this court with any complaint. In applying legal tests to the scheme as a whole and to its various parts as distinct corporate acts, we are confined to the consideration of the rights and remedies of these two dissenting stockholders of the Prudential company.
All the objections to the scheme as a whole, and to its various parts as separate transactions, are referable to one or the other of three charges, viz., (1) that the Prudential directors are
1. As I understand the case presented by -the complainants, the only separate act, apart from the scheme as a whole, which the Prudential directors are proposing to do- in pursuance of their general scheme, which is claimed to be ultra vires of the corporation, consists of the expenditure of $8,000,000 or $10,-000,000 belonging to the Prudential company for the acquisition of a sufficient number of shares of the new issue of Fidelity stock to give the Prudential company a majority of the whole capital stock of the Fidelity company as the same will stand after the proposed increase has been effected.
In my opinion the complainants’ objection to this specific act, when viewed independently of the general scheme of which it is a part, is well taken. In the laws governing the investments or the expenditures of the funds of the Prudential Insurance Company I find no authority given to any board of directors, however constituted and however free from any disqualifying self-interest, to acquire this particular stock in this particular way.
.The charter of the Prudential company, approved April 3d, 1875 (P. L. of 1873 p. 1419 § 8), makes it lawful for the corporation to purchase property under execution sales and
“to take and receive any real or personal estate in payment or towards satisfaction of any debt previously • contracted and due to the said company, and to hold the same until it can be conveniently sold or converted into money.”
“And for the purpose of investing any pm-t of their capital stock, funds or money, the said company may purchase and hold, sell and convey any bonds or public stock issued or created by this state, or by the United States, or by the states of New York, Massachusetts or Connecticut, or may invest the same in bonds secured by mortgages on unencumbered real estate within this state worth double the (amount) invested” or loaned.”
Here we have plain and specific directions as to what property the corporation might acquire and hold in the transaction of its business, and particularly for the purpose of investing its funds.
“The charter of a corporation is the measure of its powers and the enumeration of those powers implies the exclusion of all others.” Thomas v. West Jersey Railroad Co., 101 U. S. 71; De la Vergne Refrigerator Co. v. German Savings Institution, 175 U. S. 40, 55; Rabe v. Dunlap, 6 Dick. Ch. Rep. 40, 45; Stockton v. Central Railroad Co., 5 Dick. Ch. Rep. 52, 65.
Where the charter of an insurance company expressly gives it power to invest its funds in certain specified kinds of securities, the power to invest in other securities is excluded under the operation of the rule above mentioned. North River Insurance Co. v. Lawrence, 3 Wend. 482, 483; New York Firemen's Insurance Co. v. Ely, 2 Cow. 678, 699, 700; People v. Utica Insurance Co., 15 Johns. 383, 385.
If this were not true the provisions in many charters of insurance companies and savings banks specifying the mode in which investments may be made would have no force, inasmuch as in many instances no express prohibitions are made upon other investments.
The above-quoted provisions which at the start regulated the investment of the funds of the Prudential company were similar in their scope and effect to those laid down by the General Insurance act for the government of companies organized under it. P. L. of 1852 p. 163 § 10; Rev. 1875 p. 512 § 32; Gen. Stat. p. 1761 § 100.
In 1896 section 32 of the General Insurance act, above referred to, was amended so as to greatly enlarge the various classes of lawful investments which insurance companies might make, and
The intention of the legislature to malee this law operative upon the Prudential company is perfectly plain, and no question has been raised as to the power of the legislature to do this thing without the consent of the Prudential stockholders. The argument on both sides concedes at least that these complainants, as stockholders of the Prudential company, are bound by the provisions of this now statute governing the investment of the funds of insurance companies.
The provisions of this law in regard to the purch|setof stock in private corporations are as follows: **
“It shall be lawful for any insurance company * • * for the purpose of investing its capital surplus and other funds, or any part thereof to purchase and hold as collateral security or otherwise, and to sell and convey”
certain specified public bonds and stocks, “or to invest said capital surplus and other funds, or any part thereof,” in mortgages of real estate worth double the sum invested or loaned,
“or to lend on or purchase mortgage bonds of railroad companies organized under the laws of said states or the District of Columbia,' or either of them, or operated therein, or the capital stock, bonds, securities or evidences of indebtedness created by any corporation or corporations created under the laws of the United States or of this or any other state, except the stock of mining and manufacturing companies and stocks commonly known as ‘industrials;’ provided, that no loan shall be made or retained on any of the above-mentioned securities, except the bonds or stock issued or created by the United States or this state exceeding ninety per centum of the market value thereof; and provided further, that no purchase shall be made of stock of any company which has not regularly paid dividends for the five years preceding the time of such purchase, and that no loan shall be made by any company on its own stock.”
In 1902 a new revision of the General Insurance act was passed. P. L. of 1902 p. 407. The law of March 24th, 1896, above referred to, with some slight changes, entirely unimportant
Under the legislation above cited the power of the Prudential company to acquire stock in other private corporations seems perfectly plain. Under its original charter the corporation had no express authorization to invest its funds in such stock, and even its incidental power, so called, to own such stock, when acquired in payment of a debt, was limited in respect of duration.
Under the law of March 24th, 1896, and the revised Insurance act of 1902, the Prudential company is permitted to purchase tire stock of private corporations, like the Fidelity Trust Company, which have certain well-defined characteristics and for a certain well-defined purpose. In accordance with the well-settled principle heretofore referred to the Prudential company has no power to invest its funds in the stock of any private corporation which does not come within the statutory definition.
The complainants argue that the correct construction of the statutes above cited limits the Prudential company in purchasing private stock for investment to issues of such stock on which dividends have been regularly paid for five years prior to the purchase. It is insisted that this is the meaning of the statute; that otherwise a corporation which had paid dividends for five years upon a capital stock of $100,000 might issue $20,000,000 of new stock for patents or other property and embark in the wildest kind of speculative business, and yet all this new stock would come within the statutory definition.
I do not think that the construction thus contended for is consistent with the words employed in the law accepted in their ordinary meaning, nor is it required by what seems to me to be the spirit of the law. Fo rules can be laid down for investing money which will protect corporations against dishonest or negligent directors. After a corporation has paid dividends for five years, a change of its business, a change of the conditions under which it is operating, and particularly a change of the ownership of its stock and of the personnel of its board of directors, might make further investments in its stock, not only inadvisable, but grossly improvident. On the other hand, if the complainants’
In my opinion we must take this statute just as it reads. The relative “which” relates to the nearest antecedent, which is the word “company,” and not the word “stock.” The company pays the dividends; the stock does not. If the company has been so well-managed and has been so successful that it has “regularly paid dividends for the five years preceding” the time when the purchase of stock is under consideration, the statute permits the directors of the Prudentiál company to make the purchase, or rather, to speak more accurately, the statute does not prohibit the purchase if the same, in all other respects, is a lawful act within the power of the board of directors.
The next question is whether the proposed acquisition of this new Fidelity stock would be a “purchase” of such stock within the meaning of the statute. In my opinion the word “purchase” is not used .in the broad sense of the word “acquire,” but in the more usual popular sense which makes it the correlative of the word “sell,” which latter word is employed in the same sentence. Subscribing for new stock is a very different thing from buying or purchasing stock which has already been issued and is held against the corporation which issued it. Subscribing for an original issue of stock at the formation of a corporation, or for a new issue made by an existing corporation, is an act in the nature of a loan; it is a direct contribution of capital to a corporation. The distinction between subscribing for or taking new stock from a corporation and purchasing outstanding stock is analogous to the one so often drawn by the law between a loan of money to a party who gives therefor his promissory note with an endorser as security, and the purchase of precisely the same note after it has once been lawfully and honestly issued. Ueither by the purchase of outstanding stock nor by the pur
That the statute is dealing exclusively with securities already “created” and in the hands of contemplated vendors or pledgors is further evinced by the fact that in one sentence the power is given “to lend on or purchase * * * the capital stock * * * or evidence' of indebtedness created by any corporation.” This language might be deemed to include loans made directly to the corporation on its promissory notes, were it not for the express proviso limiting all loans, except when made on national or state obligations, to an amount not exceeding ninety per cent, of the market value of the securities on which the loan is made. The statute is not providing for the investment of the funds of insurance companies, in the business of discounting the paper of corporations or of supplying corporations by loans or stock subscriptions, with additional capital. The safe and natural construction of this law, in my opinion, confines the investment of insurance funds, so far as they may be invested, in the stock and evidences of indebtedness of private corporations, to such stock or obligations as may be bought on the market and are commonly referred to- as investment securities. These things exist as property in the hands of the vendors who hold them against the corporation which issued them. Stock which has once been issued and is in the market for sale generally has some sort of a market value—a value already placed upon it which is not necessarily measured by the amount which it originally represented as a contribution of capital to the corporation which issued it.
In the case of Commercial Fire Insurance Co. v. Montgomery Co., 99 Ala. 1, 6, 7, the word “purchase,” in a similar statute defining the investment of funds of insurance companies,'was held not to include a subscription to the stock of a corporation about to be formed.
In the case of Rubino v. Pressed Steel Car Co., which was cited in the argument-—-a case decided by me some months ago, but not reported—the power of the corporation to contract for the acquisition of stock of another corporation to be formed rested upon an exceedingly broad certificate, which expressly
If, however, the acquisition of this Fidelity stock by the Prudential company can be regarded as a purchase within the meaning of the statute, it is still, I think, subject to a fatal objection. It is not an investment of the capital, surplus or funds of the Prudential company in any correct sense of that term.
It must be conceded most amply that the honest judgment of the Prudential directors in regard to the safety and propriety of an investment of the moneys of the company in the capital stock of any private corporation cannot be reviewed by this court when the transaction is within the rule prescribed by the statute. The fact that the proposed investment is one of great magnitude, the further fact that the price to be paid for the stock is more than twice its intrinsic value, or what is called its book value, as distinguished from its market value, and the still further fact that the income to be derived from the investment, according to the present rate of dividends paid by the Fidelity company, is less than two per cent, per annum, may only be considered, I think, in determining whether in resolving upon this great expenditure of money these Prudential directors have actually undertaken to make an investment, or whether they have in fact undertaken to do something else either within or beyond their powers as directors.
The Prudential directors can derive no authority from any source except some statute binding upon the Prudential stockholders to expend $8,000,000 or $10,000,000 of the money of their corporation for the acquisition of this new stock of the Fidelity company. No incidental power so called to acquire stock can reach this case. There is no incidental power to invest in stock, because the power to invest in stock is expressly conferred and regulated. No other corporate object has been pointed out, in pursuit of which such an expenditure could be justified. The expenditure of this money, therefore, must be justified as an investment in stock in pursuance of the express statutory power or else it cannot be justified at all, no matter how beneficial to the Prudential company such an expenditure may be shown to be.
If these directors had sworn that they considered the expenditure of this large sum of money a wise and safe investment of the funds of their company, without the slightest reference to the great scheme of “exchange of control,” for the accomplishment of which this expenditure is a necessary act, an entirely different case would be presented. At most, these directors, in their affidavits, seek to justify the expenditure, apart from the great advantage to their company which they anticipate from their scheme, by calculating the unearned and extremely contingent profits which the Eidelity company, in their judgment,, will make; it has enormously enlarged its business and made itself capable of financing operations very different from those which the company has conducted in its so far successful career.
In brief, I think that the affidavits show that the Prudential directors are plainly proposing to make this large expenditure of the funds of the Prudential company, not for the purpose of making an investment, but for .the purpose, in the guise of an investment, of securing the carrying out of a certain scheme of corporate control, which they deem advantageous to their company.
Inasmuch as my conclusion is that the Prudential directors, without regard to the personal interest of half of them as stockholders and directors of the Eidelity company, have no power to expend the trust funds under their control for the acquisition
It was urged on behalf of the complainants that even if an investment in this new issue of stock should be deemed lawful, still such lawful investment must stop short of a controlling interest in the entire capital stock of the Fidelity company. If an investment in this stock is lawful, I am unable to see any distinction between an investment in forty-nine per cent, of the outstanding stock of the company and an investment in fifty-one per cent, of such stock. Of course, if the purpose of the purchase of stock is not to malee an investment, but to control the company whose stock is purchased, then the purchase is not an investment at all. Individual investors and directors investing corporate funds, in my opinion, may wisely take into consideration the power which the proposed purchase will give to appoint directors who will manage the business of the corporation whose stock is made the subject of investment. The majority stockholder of a corporation does not manage the corporation, nor does he “go into the business” of the corporation. The directors of the corporation manage its business. Gen. Corp. Act § 12; Plaquemines Tropical Fruit Co. v. Buck, 7 Dick. Ch. Rep. 219, 238; 2 Cook Corp. § 709.
Authorities have been cited to support the proposition that an individual or a corporation holding a majority of the capital stock of another corporation sustains, by reason of such holding, a fiduciary relation to the minority stockholders, and therefore it is argued the acquisition of a majority of Fidelity stock by the Prudential company should be avoided. Noyes Inter. Corp. Rel. § 300; Farmers Loan and Trust Co. v. New York and N. R. Co., 150 N. Y. 410; 7 Thomp. Corp. § 8223. But these authorities only hold, in effect, that the fiduciary relation arises when the majority stockholder assumes control of the corporation and dictates the action of the directors. The majority stockholder is not made a trustee for the minority stockholders in any sense by the mere fact that he holds a majority of the stock, or by the
The correct principle, in my judgment, is laid down by Judge Kirkpatrick in the case of Windmuller v. Standard Distilling Co., 114 Fed. Rep. 491.
I11 that case the majority stockholder was a corporation, which had guaranteed the dividends upon the stock of the other corporation, the majority of whose stock it held. The business of the latter corporation was prosperous, and its directors had been appointed by the majority stockholder. These directors, whose honesty was not impeached, passed the initial resolution for the dissolution of their corporation. The minority stockholders made no complaint—made no attack upon this apparently gross breach of fiduciary duty on the part of these directors. But these minority stockholders filed their bill against the majority stockholder to restrain it from voting at the subsequent stockholders’ meeting, in accordance with its own selfish interest, for the dissolution of the corporation, which dissolution necessarily involved the discharge of its contract of guaranty. The court, it seems to me, strictly in accordance with the well-settled principles, held that the complainants had bought their stock subject to the laws of New Jersey, which permitted the directors of their company to institute the proceedings for dissolution and which allowed every stockholder to vote on this question in accordance with his own selfish interest. The injunction therefore was
The power to purchase stock as an investment necessarily involves the power not to manage, but to become interested in, the business of the corporation whose stock is bought. Every investor, whether an individual or a corporation, who buys one per cent, or ten per cent, or thirty per cent, of the outstanding stock of a corporation, has power to vote for the election of trustees, and, where the stock interest acquired is of a substantial amount, it frequently practically carries with it the nomination of one or more of the members of the board of directors.
If the purchase of this new Fidelity stock by the Prudential company were a permissible investment within the statute above cited, and if in fact in making such a purchase the directors of the Prudential company in good faith desired and intended to make an investment, as distinguished from the accomplishment of ulterior objects, including the control of the Fidelity company and the establishment of their great scheme for “exchange of control,” then, in my opinion, the complainants in this case would have no well-founded objection to this purchase as a separate and independent act upon any of the other grounds above referred to.
If a corporation is authorized by its charter to acquire for investment of its funds any specified kinds of stocks of other corporations, I know of no limit which can be placed upon such acquisition .other than that in every case there must be a bona -fide investment. It may be conceded that the Prudential directors are not authorized by their organic law to pay out the
But the defendants claim that the whole force and effect of the statutes relating to the investment of the funds of the Prudential company which so far have been considered have been radically changed by the fifty-first section of the Corporation act as revised in 1896. This section provides that
“any corporation may purchase, bold, sell, assign, transfer, mortgage, pledge or otherwise dispose of the shares of the capital stock of, or any bonds, securities or evidences of indebtedness created by any other corporation or corporations of this or any other state, and while owner of such stock may exercise all the rights, powers and privileges of ownership, including the right to vote thereon.” .
It is unnecessary to enter upon this constitutional question, because, in my opinion, the statute under consideration had no effect whatever upon special limitations contained in prior special charters and prior laws dealing with particular classes of corporations. The language of section 51 is merely permissive, and must be construed in connection with section 2 of the same statute, which provides that in addition to the
“powers specified in its charter or in, the act or certificate under which it was incorporated, every corporation shall possess and exercise all the powers and privileges contained in, this act,, so far as the same are necessary or convenient to the attainment of the objects set forth in such charter or certificates of incorporation."
Where the legislature has already defined, in a charter or law dealing with a special class of corporations, the precise extent to which a corporation shall exercise the power of purchasing the stock of other corporations for the “necessary or convenient” attainment of its objects, these general laws can have no application.
Where the legislature has specially regulated the exercise of the powers of a corporation by express provisions and express ancl implied limitations in its charter, subsequent general 'enactments cannot operate as a repealer under a well-settled rule. State v. Minton, 3 Zab. 529; State v. Belvidere, 1 Dutch. 563, 564; State v. Mills, 5 Vr. 177, 180; Vail v. Easton and Amboy Railroad Co., 15 Vr. 237, 239; 4 Thomp. Corp. § 5679.
Although this principle has been applied generally so, as. to save a privilege contained in the prior special law, nevertheless it applies with equal force to cases like this where the legislature has imposed special limitations upon the investment of large sums of money in which large numbers of persons are interested.
The history of the laws under consideration strongly indicates that section 51 of the General Corporation act was not intended to affect the express or implied limitations in charters like that of the Prudential company.
' On March 24th, 1896, the legislature amended the Insurance act of 1875 so as to impose the limitations upon the investment of the funds of all insurance companies, whether “created by special charter or otherwise,” which we are now considering. This law took effect immediately.
On April 21st, 1896, the same legislature passed the new Corporation act, which, in sections 2 and 51, above quoted, provided, in substance, that any corporation might purchase shares of stock and evidences of indebtedness of other corporations so far as such purchase should be “necessary or convenient to the attainment of the objects set forth” in the charter of the purchasing corporation. This law went into effect on July 4th, 1896, and, according to the contention of the defendants in this cadse, operated as a repeal of the limitations upon the power of insurance companies to purchase the stock of other corporations contained in the law passed by the same legislature a few weeks
But it may be asked, what effect had section 51 in the way of giving power to corporations which, before its enactment, they did not possess ? It is not necessary to answer this question, and the limits of this opinion will only permit a very brief and meagre discussion of it. I cannot, however, wholly dismiss the subject, because all through the argument for'the defendants runs the more or less distinctly stated proposition that the statute of 1896 (section 51) arbitrarily extended the powers of all the corporations of the state in relation to the acquisition of stock in other corporations, and, pro tanlo, repealed a large number of prior laws. The exact effect of section 51 is a point around which a large part of the argument in this case has revolved.
Section 51 may have been declaratory and its sole effect may have been to- remove certain, perhaps vague, doubts as to the inherent capacity or incapacity of corporations to acquire and hold shares of stock of other corporations, even when such acquisition is made strictly in pursuance of the corporate objects.
Formerly corporations were incapable of voting upon stock of other corporations until proxies were provided for by statute. Corporations are now incapable of acting" as directors of other corporations. But the power of a corporation at common law to acquire and hold stock in other corporations as property has been involved in doubt largely, I think, by the confusion so- often made of an ultra vires act with an illegal act. Bissell v. M. S., &c., R. R. Co., 22 N. Y. 258, 269; 2 Cook Corp. § 667n; Bath Gas Light Co. v. Claffy, 151 N. Y. 24, 35.
In former times, when the powers of corporations were defined in special charters or in narrow statutes which permitted the formation of corporations only for a few specified objects, the voluntary expenditure of corporate funds for the purchase of
When corporations, under broad charters, had power to invest their funds as the directors might see fit, there was no legal prohibition upon investments in stock of other corporations. As soon as our General Corporation act was amended so as to permit the organization of corporations under it for “any .lawful business whatever” (P. L. of 1865 p. 913; Gen. Corp. Act of 1875 § 10), it seems plain that corporations could be created for the express purpose of acquiring, holding and dealing in stocks to the extent that such business may be lawful. To construe the word “lawful” in such a statute as this in the sense of “authorized”-—i. e., not ultra vires—in accordance with a dictum in the case of People v. Chicago Gas Trust Co., 130 Ill. 268, 811, coverts the statutory definition of the lawful objects of corporations into a meaningless circle. In my opinion it is the very great enlargement of the scope of corporate objects, the wide extension of the purposes for which they may be formed, under our General Corporation act, and not the enabling act now embodied in section 51, which has extended the power of corporations created under our general -act to- acquire and hold .stocks of other corporations.
It may be observed that the important word used in section 51 is not “acquire,” but “purchase.” If, therefore, this word “purchase” is to be construed in section 51 of the Corporation act as I have already construed it in section 16 of the General Insurance act, then it follows that even if section 51 were applicable to the investment of the funds of the Prudential Insurance Company in the stocks of private corporations, still that section would give no power to the Prudential company to subscribe for this new issue of Fidelity stock.
That section 51 had an important effect as an enabling and declaratory statute without making it operative as a practical re
There is authority for the proposition that corporations are under do disability at common law to purchase and hold the stock of other corporations. In re Barned’s Banking Co., L. R. 3 Ch. App. 105, 113; Royal Bank of India’s Case, L. R. 4 Ch. App. 252, 257; Booth v. Robinson, 55 Md. 419; Davis v. Electric Co., 77 Md. 35.
.There is also authority for the proposition that corporations cannot acquire and hold the stock of other corporations without express authorization under a statute, the origin of the prohibition, whether in the doctrine of ultra vires or in some positive rule of law based on public policy, being often left in uncertainty. See Noyes Int. Corp. Rel. §§ 264, 265; 1 Cook Corp. § 315; 1 Thomp. Corp. § 1102; 7 Thomp. Corp. §§ 8353, 8354; 7 Am. & Eng. Encycl. L. 810, 816, and eases cited.
There are also dicta at least sustaining the proposition that corporations are prohibited by a general rule of positive law based on public policy, entirely distinct from the doctrine of ultra vires, from purchasing stock in other corporations.- Oelbermann v. New York and Northern Railroad Co., 77 Hun 332, 335; Franklyn Bank v. Com. Bank, 36 Ohio 350; Franklyn Co. v. Lewiston Savings Bank, 68 Me. 43, 56.
There is also authority for the proposition that a rule of law based on public policy, or on the doctrine of ultra vires, or on both, prohibits a corporation from acquiring the stock of another corporation where the business of one or both corporations has certain characteristics or where the purchase is made for certain purposes. 1 Cook Corp. § 315; Louisville, &c., Railroad Co., v. Kentucky, 161 U. S. 677, 698; People v. Chicago Gas Trust Co., 130 Ill. 268.
In this state of the authorities there was a wide and useful
The legislation of New Jersey,'which culminated in the enactment of sections 2 and 51 of the General Corporation act of 1896, certainly swept away all doubts about the capacity of corporations under any general rule of law recognized in the state to purchase and hold shares of stock of other corporations, and established the rule that all corporations may freely purchase and hold such shares so far as is “necessary and convenient to the attainment” of their corporate objects. But corporations can be formed under the act only for “lawful purposes,” and, whatever may be inserted in their certificates, can be allowed to accomplish only lawful purposes. The question, therefore, remains whether, notwithstanding the capacity of corporations generally to hold stock of other corporations, there still remain prohibitions upon such corporate holding of stock applicable to particular cases in which the lawfulness of such holding by a natural person would be conceded. However this may be—whatever may be the precise effect of section 51 upon corporations formed before or after its enactment, under the general law of which it is a part-—it is sufficient for all present purposes to reach the conclusion that this section has no effect upon the law which for years has- been maintained for the special regulations of the investment of the funds of insurance companies, and which, six years after section 51 was passed, the legislature revised and reenacted as a part of our insurance code.
2. We reach now the main question-—whether the carrying out of this plan in its entirety would be a lawful exercise of power by the defendant Prudential directors, or whether it would be a violation of their fiduciary duty to all the stockholders of their company, and as such injurious to these complainants. iThe scheme is certainly a novel one in the State of New Jersey, and counsel for the defendants have failed to present a single reported case which indicates that such a scheme has ever heretofore anywhere been attempted.
“annual meetings of the two companies will be so arranged and other arrangements will be so made that the Prudential will forever be the dominant faction as, of course, it should be.”
This language does not mean, and cannot mean, that the Prudential company, as an aggregation^ stockholders, shall dominate the interlaced properties of these two large corporations. It does mean, and only can mean, that the directors of the Prudential company in office when the plan becomes operative, and those individuals whom they, from time to time, shall select and appoint to fill vacancies in their board, are to forever “dominate” the appointment of the directors of each corporation.
The question is whether the board of directors of the Prudential company, in the discharge of their duty as trustees for all the stockholders of the Prudential company, and in the honest pursuit of the objects of the corporation, can deliberately use their power, the poAver of the corporation and the funds of the corporation for the creation and perpetual maintenance of this scheme of corporate control. The elements of the scheme, the separate things which must be done in order to carry it out, may now be disregarded. It may be assumed that each separate act to be performed by the Prudential directors in carrying out their scheme may be intra, vires when considered by itself alone, and also advantageous to the Prudential company. If the Prudential directors have not a right intentionally to carry out this scheme for exchange of control, then it would be their duty to avoid an accidental doing of the various things which, if all were done, Avould;, as a natural result, bring the scheme into operation.
(1) The scheme, as a Avhole, is ultra vires. These directors of the Prudential company are placed in their position of power
(2) The establishment of the proposed syndicate for perpetual'control would be not only ultra vires of the corporation and its directors, but also a direct intentional injury to the complainants and other dissenting stockholders.
A series of cases in this court and in the court of errors and appeals, commonly referred -to' as the “voting trust” cases, has established the principle that “every stockholder is entitled to the benefit of the judgment of every other stockholder in the management of the affairs of the corporation,” and that agreements which sever the beneficial interest in stock from its voting power are in many instances a violation of this right which courts of equity will prevent by an injunction. Cone v. Russell, 3 Dick. Ch. Rep. 208; White v. Inflatable Tire Co., 7 Dick. Ch. Rep. 178; Clowes v. Miller, 15 Dick. Ch. Rep. 179; Kreissl v.
The minority stockholder takes great risks. His one unfailing assurance lies in the fact that every other stockholder presumably has a money interest in the corporation which his self-interest will lead him to protect. This assurance remains, although portions of the stock may be vested in a trustee whose undivided duty it is to hold it and vote upon it for the benefit of his cestui que trust. Every stockholder, also, may have outside interests which are hostile to those of the corporation. Every stockholder is no doubt exposed at times to danger from these hostile interests of his associates, as is illustrated in the case of Windmuller v. Standard Distilling Co., supra. When, however, the government of the corporation—the absolute control of its policy, the conduct of its business and the expenditure of its moneys are not only dissociated from the beneficial ownership of a large majority of the stock, but even lodged permanently in a self-perpetuating syndicate whose members may own only one share of stock each, and whose power, therefore, does not come from the property which they control, the minority stockholder’s one safeguard seems to have disappeared. I am not undertaking to anticipate any definition which yet may be made of any duty which every stockholder may owe to all his associates in using the voting power of his stock. The majority stockholder certainly has no right to appoint “dummies” as directors; it would seem that he must therefore owe a duty to all his fellow stockholders to use his power of appointing directors honestly—to use this power with an honest intent to secure directors who will act for the equal and common benefit of all the stockholders. But what is particularly pointed out here is the established principle that each stockholder’s rights are safeguarded by the fact that the control of the corporation is placed in the. hands of trustees who are chosen by persons who- own beneficially a large part of all the property which the corporation owns or who at least have a right to a large part of the profits which the stockholders have a right to divide.
That the severance of beneficial interest from the voting power of the Prudential stock under this proposed scheme is a violation
Fo voting trust case has been cited which presents a more flagrant violation of the right which, under various limitations, is accorded to the stockholder of having the business of his corporation controlled by the pecuniary interest which is at stake.
But the proposed scheme causes a further direct injury to the dissenting stockholders by stripping from their stock an element of pecuniary value to which, under the laws of Few Jersey, they are entitled. The president of the Prudential company, in his affidavit, refers to the small capital stock ($100,000) which controls the Equitable Life Assurance Society of Few York. The affidavit states that dividends have never been paid beyond seven per cent, per annum; and the fact, I believe, is that the dividends are absolutely limited to that rate by the charter of the company, and yet this affidavit, as an illustration of the fact “that the amount of dividends present or expected upon a stock is only one element in the ascertainment of its real value,” informs us that this Equitable stock is “quoted at $1,500 per share on the market.” What gives the Equitable stock a market value which makes the absolutely fixed dividends yield only a fraction of one per cent, per annum upon the market price ? Is not the reason widely known ? Is it not because of the enormous power which the possession and control of the hundreds of millions of assets of the Equitable company lodge permanently in this
In an ingenious and able brief, presented on behalf of these defendants, the following statement is made of a situation claimed now to be legally possible and unassailable under the laws of Few Jersey:
“One man controls a company of $10,000,000 capital. He may form a new company with, a capital of $5,100,000 to bold a majority of the stock. He may then sell all but $2,600,000 of the stock to company No. 2 and transfer his remaining stock to- a new company with a capital of $2,600,000. He may then sell to company No. 3 all but $1,400,000 and transfer that to a new company. This process may go on until the power of the whole chain of corporations is vested in the holder of a few thousand dollars of stock in the ultimate company, and the same chain can be used for an unlimited number of companies.”
The brief concludes that "the check on the process is not in the law, but in the difficulty of unloading the minority shares of each company.”
There seems to be grounds for the opinion that the unfortunate
First. Whether the holders of the $4,900,000 of stock could not disfranchise the few irresponsible adventurers who assumed to wield the voting power of the $5,100,000 of stock—disfranchise this stock until the beneficial owners of it should take control of their own property and use its voting power.
Second. Whether the actual, beneficial owners of the $5,100,000 of stock could not break through the chain of corporate fictions which separated them from their property and dictate how its voting power should be exercised.
Third. Whether it would not be the duty of'the attorney-general of the state to take proceedings to dissolve the holding companies as an abuse of corporate franchises, as a fraud upon the extremely liberal provisions of our Corporation act, which, however, permit the incorporation of companies only for a "lawful purpose.”
'But none of these questions need be considered to meet the full force.of the illustration so confidently advanced. In the case put, if the holders of the $4,900,000 of stock are injured by the scheme, such injury has been effected by the voluntary conduct of their associate stockholders in the use of their own property, whereas in the present case before this court the injurious condition is brought about by these defendant directors in the exercise of the powers and in the expenditure of the moneys which they hold in trust for the complainants.
An illustration suggested to counsel for the defendants at the argument was as follows:
Suppose ten corporations, each with the capacity to buy stock, he ranged in line. The first acquires a majority of the stock of the second, the second of the third, the third of the fourth, and so on to the end of the line. Last of all the tenth corporation acquires a majority of the stock of the first. This is only an
Counsel for the defendants, 'with great courage and frankness, declared that the actual equitable owners of every dollar of the capital of these ten corporations, excepting the insignificant amount represented by the qualifying shares of the syndicate, would be powerless, under the laws of Sew Jersey, to get at their property or in any way control its administration. And all this most amazing result is reached by construing the enabling act, comprising section 51 of our General Corporation law, as establishing an absolute and arbitrary right in all corporations to purchase and hold stock in other corporations and vote thereon, together with the rigid maintenance of the pure fiction of corporate existence, so- as to make these fictitious creatures the actual owners of the stock which, in equity, belongs to their stockholders. I think I have sufficiently indicated the legal and equitable principles which would be applied by the court to the prevention and cure of the evils which would result from such an extraordinary financial scheme.
I may say here, although perhaps the view has been sufficiently indicated already, that it may well be questioned whether the scheme of these defendants could ever be carried out so as to secure the supposed beneficial results which they have in view.
The whole plan is based on the theory that the fiction of the existence of these two corporations as entities would be maintained by the courts.so as to exclude the equitable owners of the property of these corporations from its possession and control.
Where each of two- corporations, each having $1,000,000 of capital, acquires a majority of the stock of the other, what takes place, as I have said before, is, in effect, a retirement of a majority of the aggregate stock. Assuming that the selling stockholders have been paid the actual value, or book value, of their holdings, then the combined capital and surplus of the two corporations have been diminished by the loss of the greater part thereof, say fifty-one per cent., which the selling stockholders
Without undertaking to discuss further the interesting legal questions to which such cross-purchases of stock may hereafter give rise, I desire merely to point out that, under general principles which already have been established in our courts of equity, the scheme which these ingenious men have proposed for excluding the beneficial owners of the stock of the Prudential company from the management of its affairs might, after all, prove abortive if now or at a later stage of its development it should be put to the test. The whole scheme is built upon fictions, which our law maintains as necessary and valuable for many purposes, but which equity nowadays frequently casts aside for the prevention of fraud and the accomplishment of justice.
The fact that this proposed scheme might, or would be, abortive, is no reason for withholding an injunction on behalf of these complaining stockholders. They are not deprived of the right to- bring an equity suit to prevent an injury to their property because, in case the injury were accomplished, they could maintain an equity suit for redress.
(3) It is impossible, within the reasonable limits of this opinion, to discuss the question of the disqualification of these directors by reason of their self-interest in its application to their scheme as a whole and to each of its constituent parts.
The most serious question of this kind relating to the separate parts of the scheme is raised by the fact that the Prudential directors are proposing to add $8,000,000 or $10,000,000 to the capital of the Fidelity company by a subscription for new stock, although one-half of the entire Prudential board are directors of the Fidelity company and consequently stockholders of that company. I prefer to avoid the discussion of this question of disqualification in its relation to any of the details of this scheme as independent transactions. Upon the argument, as I understood the statements of counsel for complainants, they admitted most amply that, as a matter of fact, these Prudential directors are not actuated by a selfish desire to sell a portion of their holdings of Prudential stock to the Fidelity company in order to receive therefor a sum of money coming from funds in a large
But the question of the capacity or incapacity of this particular board of Prudential directors to adjudicate upon the advisability of this proposed scheme as a whole is a very different matter, and one which alone, in my opinion, would control the decision of this motion. This is the last question which I shall undertake to discuss.
How far self-interest of a director in opposition to the interest of his corporation disqualifies him from acting as a director or exposes corporate action to injunction at the arbitrary election of a dissenting stockholder, or exposes such action to review by the courts at the instance of such stockholder, are matters about which the authorities are not entirely in accord. 2 Cook Corp. (4th ed.) § 658; 3 Thomp. Corp. §§ 4059, 4063, 5650; 7 Thomp. Corp. § 8502; Stewart v. Lehigh Valley Railroad Co., 9 Vr. 505, 522; Met. Tel. Co. v. Dom. Tel. Co., 17 Stew. Eq. 568, 573.
On the one hand it may be urged with great force that a minority stockholder has a right to repose upon impartial, unbiased action on the part of the directors, who are his trustees, and that he ought not to be obliged, where directors have been acting on both sides of a transaction, or are proposing so to act, to come into court with proofs of actual injury to' himself or to the corporation. On the other hand, theoretical rules have to give way to the practical necessities of business. Business eventually is not extended, and great departments of human activity are not developed by means which are fraudulent. The use of such means in the end is suicidal. In these days the relations of corporations to each other are exceedingly complex. Common directors abound and common directors are better than “dummies.” Whether a transaction between two corporations has been accomplished or remains executory, I incline strongly to believe that the safe rule in most cases in the end will be found to be that the presence of a director or directors on both
To give the dissenting stockholder the arbitrary right to an injunction in this class of cases often will put a deadly weapon in the hands of the blackmailer and the corporation “striker.” Such a rule .tends to drive the actual wrongdoers to cover, to induce them to seek concealment, while the corporate action is accomplished through apparently impartial directors, who are, in fact, only agents or “dummies.” In several recent cases before this court, where the existence of common directors was relied on for injunctive relief, these common directors, while the motion was pending, were made to disappear, and apparently impartial directors took their place, who proceeded solemnly to approve of the action of the old boards which the injunction was designed to restrain.
The fiction of corporate existence goes down in many cases before a charge of fraud, but I incline to think that this fiction, in most cases belonging to the class under consideration, should be rigidly maintained to defeat a mere arbitrary demand on the part of a stockholder that a corporate transaction should be enjoined even though all the impartial directors of the corporation and nine-tenths of the stockholders come into court with a demonstration that the transaction was advantageous in all respects to their corporation, and that an injunction upon it would cause great loss.
But whether in this case dissenting stockholders can arbitrarily prevent corporate action on the ground of the presence of directors, or a majority of directors having a hostile interest, I do not intend to consider. I propose to apply, not to the details of this scheme, but to the scheme as a whole, what certainly is a safe rule, viz., that where all the directors of a corporation have a direct valuable interest in the action which they propose to take, in which interest their stockholders do not participate, these stockholders may compel them, before they will be allowed
It seems to me that the disqualification of these fourteen directors to adjudicate finally that their scheme for exchange of control is advantageous to the Prudential company is clear and absolute.
That the proposed scheme, if carried into effect, will directly and necessarily benefit these fourteen directors, and secure to them great emoluments and great influence and power, seems to be a fact beyond dispute. The salaries and other advantages controlled by the directors of an insurance company holding today nearly $60,000,000 of assets and contemplating, in the near future, the possession of $100,000,000, or even $200,000,000, of assets, constitute a personal prize of very great magnitude.
It is not an answer to this proposition to say that these directors already hold this prize in their possession. They do not hold it in perpetuity for themselves and those successors whom they will personally select, from time to time, as death makes vacancies in their board. The effect of the scheme is to prevent them and their chosen successors from losing the prize after they have ceased to own beneficially the majority interest in the stock which now keeps the prize in their possession.
These fourteen directors have never made an independent and unselfish adjudication that this scheme will be beneficial to the Prudential company. They do not exclude themselves from the charmed circle which their scheme contemplates; they propose to sit therein, to the exclusion of the other stockholders. That this is their plan is evident, and is not denied. The Prudential directors are to “dominate,” and if any change in the membership of the Prudential board were contemplated be-fore the scheme is to go into effect the defendants ought to have proved, and could easily have proved, such fact. If these directors had merely feared that in the future a combination of a majority of stockholders owning $8,000,000 or $10,000,000 worth of Prudential stock might commit a “depredation” not merely upon the salaries and perquisites of the managers of the company, but upon the assets of the company which belong to its policy-holders and stockholders, they could easily have arranged their scheme so that in effecting its adoption they would
Applying to tire situation the very moderate and safe rule above mentioned, the result is that the favorable judgment of these fourteen directors, when challenged by a dissenting stockholder, is to be practically .excluded from consideration, and the burden is placed upon these directors of making full disclosure of their scheme to the court and of presenting clear and satisfactory proof that it will in fact be advantageous to the Prudential company. In tire absence of such proof the scheme cannot receive the commendation of a court of equity, and, as it has not received the commendation of an impartial board of directors, it must be interdicted.
Could a single equity, or even a bench of'such judges, unaided by experience in the management of insurance companies, and unaided by the favorable judgment of a board of insurance managers and experts qualified to express an impartial opinion, find in the evidence so far produced in this case safe grounds for the affirmative conclusion that this startling novelty in corporation law and corporation business is a safe and prudent thing for the Prudential Insurance Company to adopt and establish? I think not; and on this ground alone, in my opinion, an injunction should go.
I do not wish to be misunderstood upon this point. The situation in which the court is asked to give its approval to this novel scheme must be kept distinctly in view. A court of equity, if it had the power to review the honest acts of the Prudential diree
The evidence produced on this motion bearing upon the sharp question whether the establishment of this novel and ingenious scheme for the control of a great insurance company, with $60,-000,000 of assets—a scheme which has not been intentionally created by the insurance statutes of the state—would be wise, safe and advantageous to the Prudential Insurance Company is extremely meagre. This evidence, in my opinion, not only fails to justify a judgment' of this court in approval of the scheme, but raises the gravest apprehensions that the scheme, if carried out, would be a continuous menace to the policy-holders and the stockholders of the Prudential company, which would grow more and more portentous as the years go by and these faithful and experienced men one by one vacate their seats of power and give place to other men who are now unknown; that after all, or almost all, of the present board of directors have passed away, and the majority of the board has undergone several changes, this scheme might even destroy this great insurance company, which these present directors have created and which now stands as a monument to their integrity, wisdom and skill.
My conclusion upon the whole ease presented on this motion is that the Prudential company and its directors should be enjoined from subscribing for the new issue of Fidelity stock as a specific act which, without reference to its connection with the