Scott v. Depeyster

1 Edw. Ch. 513 | New York Court of Chancery | 1832

The Vice-ChanceiiiOK.

This is a bill by one of the stockholders of the National Insurance Company, in. behalf of himself and all others who may come in and contribute to the expenses of the suit, against the president and directors of the same company, in their individual capacities, to compel them, personally, to account for and make good the losses sustained in the capital stock of the company by the frauds and embezzlements of their secretary.

This company was incorporated by an act of the legislature in one thousand eight hundred and fifteen. The capital was not to exceed five hundred thousand dollars, divided into shares of one hundred dollars each. Its actual capital appears to have been only three hundred and one thousand and eight hundred dollars.

The property and concerns of the company were placed under the management of nineteen directors, chosen annually; atid one .of them was president. Eight of the present defendants were original directors named in the charter; and they, with all the other defendants (excepting one or two) were also directors from the year one thousand eight hundred and twenty-four, to one thousand eight hundred and twenty-eight, having been duly chosen each year. Mr. Depeyster was their president.

In October one thousand eight hundred and twenty-four, they appointed Oliver G. Kane the secretary of the company. While acting as such secretary and in the course of the years and thousand eight hundred and twenty-five, one thousand eight hundred and twenty-six and one thousand eight hundred and twenty-seven he managed to abstract money from the funds of the company to a large amount, without the knowledge of the defendants or exciting, in their minds, the least suspicion of his want of fidelity.

He appropriated these funds to his own immediate use or expended and lost them in gambling and other immoral pursuits to which he was secretly addicted; and, despairing of being able to conceal his embezzlements any longer, he, on the third of January one thousand eight hundred and twenty-eight, terminated his career by suicide. This event led to a thorough investigation of the affairs of the company and to an examination of its property and effects. The result showed a loss sustained by Kane’s fraudulent and felonious conduct of, rising, one hundred and seventy-nine thousand dollars.

The object of the bill in this case is, to throw the entire loss upon the directors individually, under whose administration it happened. No objection hás been taken that the company, in its corporate character, is not made' a party to the suit.

The largue amount involved in this controversy and the great importance of the principles relating to the personal liability of managers and directors of monied corporations which the-case embraces, added to the high character of these defendants for intelligence, wealth, experience in business and probity in all their social and public relation^, give to it an unusual degree of interest and have induced me to bestow upon it my best attention. At the same time, I can hardly hope that the conclusions at which I shall arrive, will be so entirely satisfactory as to put an end to the controversy. The matters now before me may, hereafter, be the subject of consideration by others. Present duties are mine; and in endeavouring to discharge them, I have sought only to satisfy my own conscience upon what I conceive to be the law and the facts of the case.

It may be observed, at the outset, that it is not attempted in this case to charge the defendants upon the ground of fraud or wilful disregard of their duties. Whatever allegations to this effect may be found in the bill, the complainant now admits that the testimony has wholly failed.to make out such a case. But he insists they have rendered themselves liable, in the first place, by employing the capital or funds of the company in discounting notes and in other operations contrary to law, instead of investing them in more permanent securities and in the modes prescribed by the act of incorporation ; and, in the second place, by gross neglect and inattention to the affairs, property and concerns of the company during the time Kane was secretary and while the depredations were committed.

The first enquiry, therefore, which seems to be called for is, whether the defendants, as directors, have disregarded the requirements of the charier and the general laws of the state in relation to the objects of the corporation and the investment or employment of its capital ? And if this shall be ascertained, then, as to the effect it is to have upon the defendants ?

By the act of incorporation, the company are authorized to make all kinds of insurance, except against fire, to lend money upon bottotoíiy and respondentia, and generally to perform all matters and things relating to those objects. The fourteenth section provides, that before the president and directors of the company assume any risk, in pursuance of the act, the amount of the capital subscribed for in the company shall be paid to the president and directors; and by them securely invested m the public stocks, funds or debts of the United States or oí this State or in the stock of the incorporated banks of the city °f New York or loaned to individuals upon bond and mortgage of real estate. Certain restrictions are imposed by the eleventh section: the company are forbidden to deal or trade in buying or selling any goods, wares, merchandize or commodities whatsoever, and in buying or selling any stock created by act of congress or of any particular state—with this qualification ; unless, in buying, the object be to invest or secure its capital stock or some part thereof or, in selling, to pay its debts or to re-invest the same in other stocks or when the property to bo sold has been pledged by way of security for debts due to the corporation. Thus, clearly, I think, marking out the distinction as to the powers of the company between dealing or trading generally and buying and selling for the mere purposes of investment and re-investment and securing debts: the first being prohibited and the last a privilege or right allowed to them. The directions of the fourteenth section, as to the stocks and kind of securities in which the investments should be made, preliminary to the business of insurance, is in perfect harmony with the restriction in the eleventh section.

But it appears the company met with great difficulty in getting into operation under the imposing conditions and requirements of the fourteenth section. They found their stock would not be taken up, if the subscribers were obliged to pay in the whole amount in cash; and the company could not commence business until this was done and the money actually invested. In order to enable them to dispense with these prerequisites, an amendment of the charter was necessary. It was accordingly applied for and an act was obtained in one thousand eight hundred and sixteen; by which it was declared to be lawful for the president and directors to regulate the amount and terms of payment for the stock subscribed or to he subscribed and the investment thereof.

This was, doubtless, intended as an enlargement of the powers and authority of the president and directors.

They were now at liberty to receive payments towards '¿heir capital stock by instalments; could take, what are denominated, stock notes, with or without indorsers; and arrange ¿he same as they pleased. They also had power to regulate the investment of the funds, when paid in. But the legislature appear to have been very cautious in the grant of this power: for they declare, by way of proviso, that the regulation of the investment (if the proviso is to be confined to that) shall not be inconsistent with the provisions of the eleventh section of the original act. Thus, the president and directors, in making investments, were bound, at all times, to have a due regard to those provisions, and which, as already shown, only go to restrain them from becoming “dealers or traders” in merchandize and stocks. There is no express provision beyond this, either In the incorporating or amendatory act. Still, it is very doubtful, whether the power to regulate the investments, means any other investments than such as were originally authorized and in the kind of property and securities mentioned in the act: since no other mode of investment is any where spoken of, and to invest in this manner and in such securities might require it to be stated by what bye-laws and regulations as to time and sums and by what committee of directors and whether it should be done in state or United States stock, indeed, whether in stocks at all or on bond and mortgage only; and, perhaps, as to other particulars. Therefore, without looking beyond stocks and bonds and mortgages, enough may be discovered to which the terms “ and to regulate the investment “ thereof” may apply.

But there is another view of the subject which renders it still more doubtful whether the use of the words just quoted conferred an authority to employ any portion of the capital in discounting notes or other business usually transacted by banks. The business of this company, and for which it was incorporated, is insurance and lending money on bottomry and respondentia.. Although not expressly limited or restricted to these objects and not, in terms, prohibited from any' other, it by no means follows that, because there is no express prohibition in their charter, the company was authorized to discount or loan money upon promissory notes. Such a use or employment of thei,. capital or any considerable portion of it would rather seem to be a branch of business assumed by the company than a mere matter of investment collateral to the declared objects and legitimate business of the corporation. The opinion of a majority of the judges of the supreme court, delivered by Chief Justice Thompson, in the case of The People v. The Utica Insurance Company, 15 J. R. 358, contains certain principles which appear to be decisive of this point. Among others arc the following, that the specification of certain powers operates to restrain a corporation to the object of such powers and is an implied prohibition of the exercise of other and distinct powers and, that the powers to invest its funds, in broad and unqualified terms, might be sufficient to authorize banking operations, were it not for the general restraining law which converted the privilege of banking into a franchise. When, in connection with the power to invest, other ways are pointed out in which funds may be invested besides in banking business, he held it to be a forced use of the term “ investment” to apply it to an active capital employed in banking, since it is usually applied to a more permanent and inactive disposition of money; and, although it might extend to banking, yet it ought not to receive that interpretation, where another sense, more obvious and consistent with the general objects of the incorporation, can be given to it.

Applying these rules to the present case, they establish the position that, under the authority to invest, although there may not be an express prohibition in the charter against bankings the company was not authorized and could not lawfully discount notes or transact other business which banks usually perform. For the purpose of investing its capital, other modes were pointed out; and it was not necessary they should resort to this. The restraining law of one thousand eight hundred and four, reenacted in the revision of one thousand eight hundred and thirteen and in force when this company was incorporated, operated, according to C. J. Thompson, to restrict the powers of the company to the modes of investment expressly mentioned in the charter and precluded all other. It is true he did not place the opinion of the court in the case just cited solely upon such ground; for he also considered a clause in the charter of that company as sufficiently restrictive and prohibitory. And, in the subsequent cases of the New York Firemen Insurance Company v. Ely, 2 Cow. 678, and the North River Insurance Company v. Lawrence, 3 Wend. 482, the opinions delivered by C. J. Savage, against the right of the companies to discount -or lend money on promissory notes, proceeded mainly upon the effect of similar clauses in the charters of those companies; and yet, without such clauses, the law may well be as laid down in the first instance—the decision upon both grounds being perfectly consistent with each other.

The further act of one thousand eight hundred and eighteen, prohibiting the keeping of an office of deposit and imposing penalties, could only be resorted to, according to the construction which it has received, when an office of deposit for such purposes as are forbidden has actually been established; and I do not perceive, from the testimony before me or the answers of the defendants in this cause that they are brought within the reach of its provisions. But, if the views I have taken of the powers of this company and the effect of the restraining act are correct, then, enough appears, from the admissions of the defendants, to show that the company have gone on for many years employing their capital and funds in a manner not warranted by their charter and have transacted business from which they were expressly prohibited by law. . They commenced very early to discount notes and resorted to that method of investment as well as to stocks—and bonds and mortgages, and it is admitted, that the amount of notes, besides other investments and loans on bottomry and respondentia, was, upon an average and during the time Kane was secretary, two hundred and ninety thousand dollars per annum. By this means a large proportion of their capital was kept in circulation; and I cannot but think it was in a manner unauthorized by law.

There is no reason to suppose, however, that the directors knowingly and intentionally ■ violated the law in this respect. It, doubtless, proceeded from an honest but mistaken view of A the powers granted to the corporation over which they presided; mistake in a matter of nice construction of law, depending upon the meaning of terms, susceptible, perhaps, of a two fold application. The directors of the Utica Insurance Company, incorporated about the same time, namely, in one thousand eight hundred and sixteen, and with powers not more ample, fell into a similar error and were not convinced of it until a decision was had against them; and even then, so doubtful was the question, that the strong and luminous mind of Mr. Justice Spencer happened to be arrayed on the side of the company in favor of their construction and against the Attorney General and a majority of the bench. It is not at all surprising, therefore, that these defendants should have formed misconceived notions of the extent of their corporate powers and have persevered in them so long.

The next question then is, in regard to the effect which this is to have upon the rights of the parties to the suit ?

I thus limit the inquiry to the rights of the parties, because it is not now a question, with the company in its coporate capacity, whether it has forfeited its charter, nor between the company and individuals, with whom they have dealt, whether the contracts made in discounting notes or lending money are such as could not be enforced at law: but, it is a question between the corporators, who, on the one hand, are stockholders and persons, on the other, standing in the relation of trustees, whether they are to be held responsible for an innocent mistake or error of judgment in regard to their corporate rights and privileges ? It seems to be perfectly clear, both from reason and authority, that they are not. Even if a loss had accrued as a direct and immediate consequence of their error, still,without any other fault on their part, the law, from’the wisest policy, would excuse them. No-man who. takes upon himself an office of trust or confidence for another or for the public, contracts for any-thing more- than. a_ diligent attention to its concerns (sometimes differing in degree) and a ..faithful .and..honest c[is-‘ charge of the duty which it imposes. He is not supposed to have attained infallibility; and does not, therefore, stipulate that he is free from error. To hold that the law requires this of any man is to suppose him incapable of erring; and to establish it as a rule that men are to be responsible for mistake or error of judgment, while acting in good faith, would put an end to all offices of trust—since no one who is capable or worthy could be found to accept of them. And yet, without such offices, neither the affairs of the public nor of individuals, to any extent, could be conducted. The principle applicable to this branch of the case is to be found in several adjudged cases. The decision in Harman v. Tappenden, 1 East. 555. is a direct authority for it. So in The Attorney General v. The Coporation of Exeter, 2. Russ. 45. it is laid down that where trustees of a charity, under an instrument of doubtful construction, have acted honestly, although erroneously, they will not be charged in respect of past misapplication of the funds. And in Crookshanks v. Turner, 7, Br. P. C. 255, it was decided, that a trustee should not he answerable for a mistake committed innocently and from which he derived no advantage and a court of equity would grant a perpetual injunction to prevent proceedings at law grounded upon such mistake. The case of Gray v. Chaplin, 2. Russ. 126. may also be cited for the same purpose, as well as in support of another view which has been urged upon the argument, that the complainant and the stockholders generally acquiesced in the course of business pursued by the company and participated in the results, and, therefore, have no light to object or complain.

There does not appear to have been any concealment of the fact, that a large portion of the capital was employed in the manner alleged. Large dividends, founded upon statements, showing, among other property, the amount of bills receivable belonging to the company, were made semi-annually and for a number of years in succession. These statements must have been open to the inspection of stockholders. I think the inference ■ is a fair one, that they became acquainted with the nature of the business which the company was pursuing; and especially the complainant, who appears to have increased his stock from year to year by the purchase of additional shares—evincing thereby his entire satisfaction with the management of its concerns. The same directors were generally rechosen every year. But little change took place in this respect. The course of business appears to have been very uniform and without objection from any of the stockholders, and, therefore, to say that they have acquiesced and are bound by such acquiescence, as between themselves and the directors, is not unreasonable. The acts of the directors were done by them in their official capacity ; and if those acts met with the express or implied sanction of the stockholders, they became the act of the corporation and binding equally upon all the corporators, although, as to the public or third persons, such acts may have been illegal. So it is clear, that whatever illegality there was attaches, not to the directors individually and solely, but to the whole corporate body including the stockholders ; and upon no principle whatever can the directors be responsible to the stockholders or the stockholders to the directors for any thing growing out of such illegal transactions. They are in pari delicto—the one party in performing and the other in sanctioning acts, as those of the corporate body which they collectively composed. For these reasons, I am satisfied the unauthorized or illegal transactions of the company do not furnish any ground which would hold the directors responsible to the stockholders even if a loss to the company had been the immediate and direct consequence. Much less, then, can there be any liability of the sort when no loss has actually accrued from this cause. No direct injury has resulted from investing the capital or funds in promissory notes. Not one discounted note has been purloined or lost to the company. The depredations were not committed upon the securities, but upon the cash of the company, in the manner which I shall hereafter, particularly notice ; aud the losses of money in this way do not appear to have been a direct or natural consequence of the investment in notes. And, whether their funds to a large amount were constantly circulating through the bank with which they dealt, by reason of their discounting and depositing notes for collection, or., whether they deposited for safe keeping or in order to await other investments and opportunities to loan on bottomry or respond&ntia, the funds would have been liable to the same practices which were resorted^to for the purpose of abstracting them. It is probable, however, that opportunities for the accomplishment of such designs to a greater extent were thus afforded. Still, this does not make out that the loss was a direct consequence of discounting notes. It was, after all, but a remote one. The money was obtained by reason of its being in the bank, and in consequence of the bold villany and adroitness of the secretary in altering and forging checks; and, from whatever cause or hy whatever means the money happened to be there, the effect, under such circumstances, would have been the same.

A bank is deemed by all to be a place of safety for funds (and it certainly was lawful for the company to lodge their means in the bank for any temporary purpose,) while forgery is a crime which cannot always be prevented and against which no human foresight or prudence can be an effectual protection.

This case, then, must be examined upon other grounds. The mere fact of the company’s funds being kept in the situation just described and lost by embezzlement or forgery is not sufficient to charge the directors. By appointing Kane to the office of secretary, they did not become sureties for his fidelity andgood behaviour. The law casts no such responsibility upon the directors of any corporation. If they -select persons to fill subordinate situations'who are known to them to be unworthy of trust or notoriously of bad character and a loss by fraud or embezzlement ensues, in such a case a personal liability rests upon them: but not otherwise.

The bill charges misconduct in this respectaupon the directors in appointing Kane their secretary by alledging, that his being addicted to gambling or reputed to be so, was well known to them and also that his character was otherwise exceptionable, and that, notwithstanding such knowledge, they elected him without taking or requiring from him any security for the faithful discharge of his duty. It is proved not to bo customary to take security from secretaries of Insurance Com» pañíes ; and it was dispensed with in this instance. The other branch of the allegation is fully denied by the answers of the defendants. They severally declare they had no knowledge or suspicion of his being addicted to gambling or of there being any thing exceptionable in his character or habits. Even Mr. Hone, who was most instrumental in favor of his election, declares, that so strong were the convictions of his mind as to the integrity of character and conduct of Kane at all times, that, had it been customary to exact security and he, Mr. Hone, had been requested, he would have signed the necessary bonds. An effort has been made to disprove these denials and particularly the declarations of Mr. Hone; but, without success. The charge of impropriety in relation to the choice of Kane as secretary, consequently, fails.

I now come to the more important considerations, growing out of the transactions of Kane and the alleged misconduct of the president and directors in relation to the care and management of the property of the company after he became their secretary.

This leads to an inquiry in the first place, as to the manner in which Kane’s depredations were committed, (for much may depend upon the means he employed, the acts and contrivances used by him to avoid detection, and the adroitness with which he managed to deceive the president and directors)—whether it was owing to any remissness on their part that it was continued so long without discovery ? and, secondly, what sort of care and attention is required of directors in institutions like this and what constitutes negligence and the degree of it which is necessary to render them liable ? The bill charges that Kane was permitted to act as he pleased in conducting the affairs of'the company, by managing the monied concerns and keeping the valuable securities ; and that, in the course of the year one thousand eight hundred and twenty-five, he fraudulently withdrew twelve thousand dollars and upwards from the funds of the company, in one thousand eight hundred and twenty six the further sum of eighty thousand dollars and upwards, and more than eighty-seven thousand dollars in the year one thousand eight hundred and twenty-seven. And the particular interrogatories require the defendants to answer as to what amounts wore withdrawn in those several years, how the same appear, and from what documents, entries or papers the amount of the respective defalcations is ascertained—and to state the same fully and particularly.

The answers generally deny" that Kane was permitted at any time to manage or control the monied concerns of the the company or that he had the custody of the valuable securities appertaining to its affairs and business. They specify the amounts which he defrauded the company of in the course of each year, differing somewhat from the sums stated in the bill, hut deny that it proceeded from any neglect of the president and directors ; on the contrary, they say it was accomplished by his artful frauds and hold forgeries; that from the investigation which afterwards took place, it was apparent the forgeries occurred chiefly in a branch of the business of the office where, from the prudence of the president, it might have been least expected and where suspicion would least attach; and that it was the uniform practico of the president, for greater caution and certainty, to allow no payment of money to be made in the course of the business of the company, except through the medium of a check on the bank signed by the president and countersigned by the secretary, and which, according to. the established usage of Insurance Companies, were filled up in the hand writing of the secretary and, therefore, well known to the bank. The answers go on to say, that checks thus filled up for small amounts, such as five, seven or nine dollars, and signed and countersigned for the purpose of paying such bills presented against the company, instead of being delivered to the person presenting the bills, must have been retained by the secretary and the amount paid by him in cash to the person entitled to receive it and the checks thus remaining in his possession then altered from units to thousands, and by that means, instead of five, seven or nine dollars being drawn from the bank, as many thousands were abstracted and applied to his own purposes—and in order to conceal from the president and directors the fact of drawing suc^ amounts from the bank, a duplicate set of false and forged hooks were artfully imposed upon them in every instance when the books wore resorted to by the president or examining committees for information, the true and genuine bank books, which would have led to detection, being withheld. They further say, that upon examination, it was also discovered that money received in the office in the course of business, paid to the secretary and which he was bound to deposit according to established usage, was embezzled by him from time to time and the fraud concealed by forged books and entries in like manner.

The defendants have also stated, very particularly, the manner in which the examination was conducted in order to ascertain the amount of the losses or defalcations; and the books, documents and entries they had recourse to for the purpose (those containing the direct and positive evidence of his embezzlements and forgeries having been destroyed a short time before his death and, as they supposed, in contemplation of flight;) and they show how it is made to appear that two modes of abstracting their funds were practised: one, by embezzlement of sums paid at the office which he appropriated to his own use instead of depositing the same in the bank, at the same time making entries in the books of the company as if the monies were actually deposited and forging a bank book to correspond—the [other, Jby altering checks as before mentioned to a large amount, making entries in his books to correspond with the sum originally intended, and also in the forged .and fictitious bank book kept by himself for the purpose of deceiving the president and examining committees.

Whether the statement in the answers on this subject is to be considered as called for by the bill, and, therefore, evidence in the cause, it seems not necessary to determine, since the facts appear to be sufficiently proved by the testimony of Mr. McNeal, who was examined as the complainant’s witness-. Although neither he nor any other person could undertake to testify from their own knowledge what were the means used to accom- ° _ plish these extensix-e depredations or in how many ways the frauds were .perpetrated, yet, considering they xvere chiefly confined to the money of the company in the bank, and to such as was occasionally paid in and received at their office (only one promissory note of txvo thousand dollars, arising out of an insurance transaction, ever having been purloined) I think it is manifest, from the nature of the case as well as from the facts ascertained by Mr. McNeal in the course of his investigation as testified to by him, that no other modes of surreptitiously obtaining the funds of the company were pursued than the txvo just mentioned—and there appears no room to doubt that both xvere occasionally practised.

If this be so, then no blame can attach to the president or any of the directors in respect to the mere act of embezzlement or the commission of forgery in altering checks. The funds^ were not needlessly or improperly exposed by them to the temptation of such crimes. They ho.d a right to repose some confidence in the secretary of the company. His station required it of them; at least, so fur as to allow him to receive whatever money was paid at their office in the course of business and have charge of such money for the purpose of depositing it in bank, and also to the extent of filling up checks to be signed by the president and himself and to be used and applied to the purposes for which the same were intended. .All these were matters within the scope of the secretary’s duties i and which, according to established usage, belonged to him to perform. He was, therefore, entrusted with them; and It was in these alone he betrayed his trust. How," then, can the president and directors be liable for the act of embezzlement or forgery merely 1 There was no collusion; and thus far, no want of care or prudence on their part. I know of no law which requires the president or directors of any monied institution to adopt a system of espionage in relation to their secretary or cashier or any subordinate agent or to set a watch upon all their actions, While engaged in the performanee of the general duties of their station, they must be supposed to act honestly until the contrary appears; and the law does not require their employers to entertain jealousies and suspicions without some apparent reason. Should any circumstance transpire to awaken a just suspicion of their want of integrity and it be suffered to pass unheeded, a difforenf'rule would prevail if a loss ensued. But, without some fault oe the part of the directors, amounting either to negligence or fraud, they cannot be liable. „

It is necessary, therefore, to pursue this case still further,, and ascertain the kind of carp and attention which it is incumbent on directors to bestow, and the degree of negligence which will charge them ; and also, whether such negligence is justly imputable to the defendants in not having prevented, by an earlier discovery, the long continued and enormous depredations upon their funds. The first is a matter of law; and the last depends upon and is to be determined by the evidence. These enquires, in fact, involve the points most important in the cause and upon which it must ultimately be decided.

The persons who become directors or managers of a corporation place themselves in the situation of trustees; and the relation of trustee and cestuis que trust is thereby created, for the time being, between them and the stockholders. In the language of the charter of the present company, their duty is to manage the stock and property and conduct the affairs and concerns of the, corporation, selecting one of their number for president: Sec. III. For the discharge of these duties they are chosen ; and, by accepting the appointment, they assume a responsibility at least as extensive as that of any other description of trustees. In the civil law, a rule prevails which, I think, may,, with great propriety, be applied here. It is this, that “ those who are named by companies and corporations “ to have the direction of their affairs, arc obliged to take the same care and diligence as factors or agents. They are an- “ swerable not only for any fraud and gross negligence which 51 they may be guilty of, but also for all faults that are contrary re to the care required of themDomain hook 2, lit 8, ser. 9

In order to determine what is contrary to the care required. •<af them, as superinducing a liability besides fraud and gross neglect, resort must he had to other rules ; and these are to he found in the law of bailment which, according to its definition, fairly embraces the trust assumed by directors and places them in the light of bailees of the property belonging to the corporation. As directors are generally persons having an Interest in the joint stock of the company, they are irot bailees who are to derive no benefit from their undertaking and, therefore, to be held responsible for slight neglect; but they act in relation to a bailment beneficial to both parties (the stockholders and themselves). And the rule then is, that they must answer for ordinary neglect ¡ and “ ordinary neglect ” is understood to be the omission of that care which every man of common prudence takes of his own concerns. The rules in the law of bailment are founded in reason and justice. They are of great practical utility and importance and serve as rules of decision both in courts of law and equity. The one to which I have adverted affords the proper test," in my opinion, to be applied to the conduct of parties standing in the situation of these defendants. I think the question in all such cases should and must necessarily be, whether they have omitted that care which men of common prudence take of their own concerns ? To require more would be adopting too rigid a rule and ren- 1 dering them liable for slight neglect: while, to require less, would be relaxing too much the obligation which binds them to vigilance and attention in regard to the interests of those confided to their care and expose them to liability for gross neglect only—which is very little" short of fraud itself.

Taking what I have thus stated to be the true rule, I proceed to examine the facts in relation to the only remaining part of the conduct of the defendants which requires to be noticed, for the purpose of seeing whether their failure to discover the embezzlements and forgeries of Kane at their semi-annual examinations or at any other times was owing to ordinary neglect or the want of that care which common prudence required them to ‘bestow.

It is not pretended that it was the duty of the. directors to attend daily at the office and examine the transactions and entries in-the books kept by the secretary to sec how far he was correct and regular. The testimony shows if not to be customary in insurance offices for directors to do so. Great confidence must necessarily be and generally is reposed in the secretary. The duties of his department require it; and Kane’s Were very much the same as in all other companies. And much is likewise entrusted to the president. He has particular duties which the daily business of the company demands; and these are, in some measure, distinct from those of the secretary. And besides these, he has the general management and superintendance of all the affairs of the company, sometimes being aided by an assistant president selected from among the directors for such purposes. It is not the practice for directors to attend or hold daily meetings at the office or to give their constant attention to the concerns of the company. Monthly meetings of the board appear to be all that are deemed necessary in the best conducted marine companies ; and, unless special business requires their, attention, they are not oftener convened. Statements showing the result of each month’s business, are made up and laid upon the table for inspection at such meetings; and, at the close of every six months, an examining committee is appointed to investigate the affairs of the company preparatory to declaring a dividend. This is a brief outline of the modes'pursued in managing the affairs of a corporation like the present. In answer to the charges of inattention on the part of the president and his absence from the office, leaving the control of the monied affairs to Kane, and that the- directors, at the same time, paid but little attention to the affairs of the company and were entirely neglectful of their duties, the defendants, (besides expressly denying all this,) show the particular manner in which the affairs of the company were attended to and conducted by the president; “and also, that the duties of the- directors, on all occasions requiring their attention, were carefully performed. This part of the answers is, I consider, responsive and as con-. taming denials of the allegations in the bill, and, therefore, evidenee in their favor. And the testimony of the officers of marine insurance companies, who have been' examined on the x part of the complainant, prove that the duties which are thus alleged to have been performed are the usual duties attaching to presidents and directors and evince no want of care, foresight or prudence in the general management and direction of the company’s affairs. Indeed, so successfully was their business conducted under the system which they had adopted and pursued, in connection with the practice of the office—excepting the frauds of the secretary-that they were enabled, during most of the time, to declare half-yearly dividends of six per cent and sometimes larger, and have a considerable surplus of profits on hand to meet any contingencies.

These circumstances appear to me to furnish a sufficient answer to many of the allegations and to much of the argument adduced to show a general want of attention and remissness of duty on the part of the defendants ; as, for instance, not making bye-laws,not holding more frequent and regular meetings of the board, and permitting the secretary to have too much control. And bye-laws are, moreover, proved to be unnecessary in such a company, and entirely dispensed with in many.; and even: when adopted, it is certain they would not prevent the commission of crime or the devices of a fraudulent secretary. Nor is it shown, how they would lessen the temptation to the one, or the inducement to the other, where the person should be r disposed to act criminally.

Consider this case, then, as respects the general conduct of the defendants in the management of the property and concerns of the company, and I am not able to discover sufficient: evidence of such a want of care and attention as prudent men in the management of other institutions of a similar kind or in relation to their own concerns are accustomed to bestow.

But, there is a further view to be taken of this case in relation to a particular duty which the directors, or some of them at least, undertook to perform, and wherein, it is strenuously contended, there has not only been a want of ordinary care, and circumspection but gross neglect on their part; and 1 must confess there is no part of this cause which is burthened with so much difficulty and produces so much embarrassment to the mind as this. I allude to the semi-annual examinations and the failure of the several committees, appointed for the purpose, to discover during three years the depredations which were continually going on. If this was owing to any culpable omission or negloct”of the committees, it may presbnt another question: how far the consequences are to be visited upon the other directors ? This point, however, has not been raised: the defendants, one and all, putting themselves upon the broad ground of there having been no neglect or omission of duty on the part of any such committees.

In contemplating the magnitude of the depredations upon the funds of the company, the number of them, how often they must have been repeated either by an act of forgery or embezzlement, the boldness and daring of the perpetrator, committing his crimes, as it were, in the very face of those whoso interest and duty it was, if possible, to detect and expose him, the mind is naturally startled and astonished at finding he passed the ordeal of each successive committee, not only unharmed but unsuspected of an error or a fault! It is almost incredible to believe he could have escaped, if any of the committees, especially those in the year one thousand eight hundred and twenty-six and on the first day of July ono thousand eight hundred and twenty-seven, had gone through thoir examination with ordinary diligence and care. The subsequent investigations of Mr. BicNeal have detected the gross and what "would seem to have been the plain and palpable errors and false entries of debit and credit in the books, which must have existed to a certain extent .when the examinations took place; and a strong‘rand”ahle argument hasffieen made from thence to show, that the committees could not have examined and compared the different books and entries in the manner they should have'klone and which their duty prompted and required, otherwise they must have discovered the clue to the frauds and forgeries which had been previously committed.

This argument, however, is not altogether satisfactory; nor is the conclusion to which it leads to be adopted, in opposition to other evidence and against the weight of other considerations which present themselves. When these examining committees proceeded to their task, it is to be remarked that nothing had transpired to awaken the least suspicion in regard to the secretary. He prepared his books for the occasion and made out the usual statements to be laid before the committees; and there can be no doubt of the fact that the whole were artfully contrived to cover his defalcations and to deceive them. And it is also to be borne in mind, that the questions are not whether it was possible for them to detect him and whether they were bound to do so at all events; for nothing was easier of accomplishment or more within the roach of possibility. They had only to go to the bank with the books which he exhibited to them, as the note deposit book and tho cash deposit book containing entries purporting to harm been made by a clerk or teller of the bank, and there ascertain, by comparison or otherwise, the genuineness or correctness of such books or by comparing, in their own office, the cancelled checks, provided they were remaining in the office, with the check book from which they issued ; and then the discovery would have been made. It is not, 1 repeat, what they had it in their power to do, and might have- dono. There is a wide difference between this and what it was their duty to do. The, question simply is, whether those investigations were conducted in the usual manner pursued in other companies by prudent men careful of their own concerns 1

That this is the criterion, results from the principles I have already stated ; and it has also the sanction of direct authority. In the case of The Manhattan Bank v. Lydig, 4. J. R. 347, where the question arose as to what was a want of due diligence on the part of the directors in not discovering a fraud and embezzlement committed by a book-keeper in the bank, the Supreme Court used tho following language ? “ Tho ex- “ animations at the bank by tho committee of directors were x in the usual way : and. the frauds practised eluded detection. “by the fabrication of a false balance sheet. It is not for “ the court to point out the mode banks are to pursue to detect A i “ frauds ; but if they take the usual and uniform method “ adopted, not only by this but by other banks, they cannot “ be subject to a charge of negligence.” Y/hether the present case will admit of the application of this rule, must depend upon the evidence ; and which I shall briefly examine.

In answer to the charges in the bill (and in these respects the statements are clearly responsive and to be received as evidence) the defendants, and those of them who served on the examining committees, speak from their own knowledge, detailing very fully the particular manner in which their examinations were conducted, and they aver that the mode pursued was the same which a vigilant merchant would take in the examination of his own concerns; that they were deceived and imposed upon by books, especially the bill book so called and the note deposit book and cash deposit book of the bank, all of which they have since ascertained must have been forged and false, but of the genuineness of which at the time there was no mistrust or suspicion. They further aver, that such mode of investigation is the same pursued by all the incorporated companies in examiniug their concerns and the result can only be effected by the most adroit fraud and forgery. The witnesses who testify as to the mode of conducting such examinations in other companies are all gentlemen of great experience and perfectly familiar with the practice. The first is Mr. Walter R. Jones, who has served officially in three different companies and in which he says they pursued very much the same course at the semi-annual examinations described in the answers of the defendants as having been pursued by them. In one of the companies with which he had been connected, they were, indeed, not so particular ; in another still less so, and with regard to their bank account, lie adds, they relied on the bank book produced by the secretary and such book was also taken as evidence of notes and bills deposited. They never carried their scrutiny so far as to take the bank books to the bank to see if they were forged, but relied on them as genuine ; and in another place, he says, forgeries in the bank books of the company would be likely to deceive the company the longest time, for the reason that entries in bank books are always relied on as genuine and never questioned. The next witness is Mr. Abraham Ogden, the president of the Ocean Insurance Company, who says, that in his company they never pursued a more strict course, nor did they pursue so strict an one until after frauds wore known to have been committed; and he is not aware a merchant could pursue a stricter course. He also says, it was not the practice in his company to send to the bank to ascertain the correctness of the book exhibited as the bank book, nor in the American Company from one thousand eight hundred and fifteen to one thousand eight hundred and nineteen, although, since frauds have transpired, it has become customary in some companies to do so. Mr. McEvers, .the president of the Now York Insurance Company, is likewise very explicit on this subject. He says, they always take the bank book as true and they never go to the bank to enquire. Even at the present day (one thousand eight hundred and thirty)1 in all their examinations they rely on the bank book as true, without sending to the bank to have it certified.

Mr. Richard M. Lawrence, of the Union Insurance Company, corroborates,jto the full extent, the testimony of the other witnesses. He says, the mode of examination pursued by the defendants, as described in their answers, is a very complete mode and is a great deal more strict than the one which was pursued by his company before the discovery of the frauds practised by Kane were known ; that it was an examination of extraordinary care when compared with the scrutiny in his company before these frauds; and, in his opinion, a vigilant merchant would not have pursued a stricter course of examination into his own concerns, no suspicion of fraud or forgery existing. On examinations by committees, he says, the bank books are accepted and relied upon as correct and he has never known them to send to the bank to ascertain whether the entries in such books were true.

AH these are witnesses selected by the complainant; and their testimony in various other respects in relation to the practice of Insurance Companies, the confidence which must necessarily be reposed in the secretary, and the possibility of his practising frauds and forgeries to a great extent and avoiding detection for a length of time, without any remissness on the part of the president or directors, tend to exonerate the defendants in this instance from the imputation of carelessness.

Nor do I find in the testimony of the -other witnesses, who may be considered of another class—coming principally from Fire Insurance Companies and who speak of the practice of their offices—any thing to lessen the force of the evidence to which I have just adverted. According to that evidence, the proceedings of the examining committees, however unfortunate in their results and however strange it may appear that they did not elicit the true though lamentable condition of the finances of the company, were nevertheless conducted with ordinary care at least and in the method usually pursued on such occasions. The defendants arc, therefore, exonerated from the charge of negligence on this score.

I have now gone through this case ; and have touched upon all the points which appeared to mo deserving of consideration.

Some portion of what I have here expressed might have been spared, particularly what relates to the construction of the charter of the company and the unauthorized manner of investing and employing their capital. The consideration of these topics may be deemed immaterial to the conclusion which I have formed; but, as the subject of the charter was introduced and fully discussed, I deemed it not improper to give my views of it which, if correct, may perhaps be of some service.

Upon the whole case, both in regard to the law and the evidence, and after a very laborious and careful examination, I find myself forced to the conclusion, that, upon none of the grounds which have been assumed and in no point of view' arc the defendants to bo charged with the heavy loss sought to be fastened upon them.

I must dismiss the bill, with costs.

Case Details

Case Name: Scott v. Depeyster

Court Name: New York Court of Chancery

Date Published: Dec 10, 1832

Citation: 1 Edw. Ch. 513