WEBSTER EISENLOHR, Inc., v. KALODNER, Judge, et al.
No. 8412.
Circuit Court of Appeals, Third Circuit.
Sept. 27, 1944.
Reargued Aug. 7, 1944.
Argued Feb. 8, 1944.
Judge Kalodner submits on brief.
Before BIGGS, MARIS, JONES, GOODRICH, and McLAUGHLIN, Circuit Judges.
GOODRICH, Circuit Judge.
Judge Kalodner has filed an answer to the petition. Mr. Bortin has filed none.
The essential facts are not in dispute. Andrew J. Speese, 3rd, alleging himself to be a citizen and resident of Texas and the owner of 10 shares of the preferred stock of the petitioner, Webster Eisenlohr, Inc., a Pennsylvania corporation, filed a suit against that company on February 1, 1943, in the District Court of the United States for the Eastern District of Pennsylvania. The action was brought by Speese “for and on behalf of all the preferred stockholders” of Webster Eisenlohr, Inc. The complaint, inter alia, described the division of the stock of the company into common and preferred shares and alleged that dividends on the preferred shares had remained unpaid since April 1, 1931, and, as of December 31, 1941, amounted to $75.25 per share; that the certificate of incorporation of Webster Eisenlohr, Inc., provides that the preferred stock shall not be entitled to vote at any meeting of stockholders, and shall not be entitled to participate in the management of the corporation “* * * unless and only in the event [that] (1) two quarterly dividends payable thereon shall be and remain unpaid and in arrears, * * * whereupon * * * full voting power shall be vested in the preferred stock, until the arrearages of accumulated dividends upon * * * [the] preferred stock shall have been paid * * *” It was further alleged that at the annual meeting of stockholders of the corporation on March 10, 1942, Speese, acting for himself and as proxy for 815 shares of preferred stock, demanded that the voting power be vested exclusively in the preferred stock and that the corporation, acting through its president, refused the demand and ruled that the preferred stock and common stock together had the voting power to elect directors; that the company persisted in this attitude despite frequent demands of Speese and other preferred stockholders; that the corporation is dominated and controlled by the Chase National Bank of the City of New York by reason of its ownership of a large block of the common stock of the company and that the control of Webster Eisenlohr, Inc., had been “usurped” by reason of the action of the company in refusing to recognize the officers elected by the preferred stock; that the alleged usurpation “is in fraud of the rights and privileges of the preferred stockholders and has had the effect of illegally depriving * * * [them] of their right to name directors“; and that the assets and property of Webster Eisenlohr, Inc., are being managed, controlled, financed and otherwise disposed of for the sole benefit of the holders of the common stock to the “irreparable injury and prejudice of the preferred stockholders, notwithstanding the financial ability of the defendant company to pay or secure the rights and privileges * * *” of the preferred stockholders.
Speese prayed that the court adjudge that the preferred stockholders possess presently the exclusive voting power in the company, that a receiver pendente lite be appointed, and that general relief be granted.
Webster Eisenlohr, Inc., filed an answer denying the substance of the allegations of
Between hearings upon the matter before the District Court the company sent to its stockholders copies of its annual report for the year 1942. Following the sending of the report the company also wrote its preferred stockholders, offering to purchase their interests. Copies of these documents were supplied to the District Judge upon his request although not introduced in evidence in the litigation. At one of the hearings Judge Kalodner indicated his belief that the financial statement sent by the corporation to stockholders was misleading and he criticized the letter sent to preferred stockholders for failure to state facts which he deemed material. Then, at a hearing on April 24, 1943, counsel for Speese stated to the court that he had no client since the shares of Speese and other stockholders which he had represented had been purchased. Judge Kalodner again expressed his dissatisfaction with the actions of the company and stated: “I will advise you gentlemen that I am going to appoint an examiner to look into this matter.” Subsequently the court did appoint Mr. Bortin as Special Master under
Counsel for Webster Eisenlohr, Inc., sought vacation of the order in the District Court and, failing that, asks a writ of mandamus directing the District Court to vacate this appointment and a writ of prohibition directed to the Special Master to prevent him from carrying out his commission. A majority of the court believe the company‘s position to be well taken.
The fundamental proposition which probably no one would dispute is that a court‘s power is judicial only, not administrative nor investigative. A judgment may only be properly given for something raised in the course of a litigation between the parties.1 Now, what was the litigation in this case? The complaint presents the question of the legal effect of the provision that preferred stockholders, under given circumstances, shall have full voting power. Whether full voting power means that they may vote along with holders of shares of the common stock or whether “full” as used in the certificate of incorporation means “exclusive” is a question of interpretation of language to be made with such help as the Pennsylvania decisions give, since the corporate litigant is a Pennsylvania corporation. The allegations of fraud made in the complaint are conclusions from the plaintiff‘s claim that he and other preferred stockholders were entitled to exclusive voting rights and did not get them. This interpretation is corroborated by a letter sent by counsel for Speese “To the Remaining Preferred Stockholders * * *” of the company giving information concerning the institution of the Speese suit. The letter said “The gist of the suit was to settle, if possible, the long standing controversy between the preferred stockholders and the company as to whether or not the preferred stockholders should have the exclusive voting power in the company in view of the default in the payment of dividends, as distinguished from the right to vote together with the common stockholders.”
If the plaintiff‘s contentions on voting rights are upheld as a matter of law, the
The directions given the Master went far beyond anything involved in the issues presented in the litigation, as will be seen from the reading of the order appointing him.
Masters are provided for in the
On principle, however, the matter seems clear.
In this case the report made by the company to its stockholders and the circumstances under which some of the preferred stockholders disposed of their interests were not before the court in the then pending law suit. The District Judge felt that there were indications that the company had not been entirely aboveboard in the matter. The company, through its counsel, earnestly contended that it had been entirely fair. This court refused to hear counsel on that point, for we thought the matter not relevant. None of these stockholders was under guardianship; all had the full legal power to sell their shares under such circumstances as it pleased them to sell. If any one felt that he had been deceived, he could take the steps necessary to protect his rights. There was no indication that any party to the transaction was complaining. We think that neither the report to the stockholders nor the sale of their stock was involved in the litigation. It was therefore outside the scope of investigation both by the Special Master and the court itself.
We do not think this view imposes unduly restrictive limitations upon courts. The judicial power is limited to deciding
The final point required for our attention is the application of
But, in this case the original action is still pending in the District Court for the Eastern District of Pennsylvania. Other preferred stockholders may intervene under
In view of the above discussion we think it unlikely that the formal issuing of the writs prayed for will be necessary. The applicant may later apply to this court if the need presents itself. No order for costs will be made.
BIGGS, Circuit Judge (dissenting).
There are certain aspects of the factual background of the case of Speese v. Webster Eisenlohr, Inc.,* which should be stressed in order that it may be plain why the learned District Judge entered the order complained of. At the first hearing, that held before Judge Kalodner on March 2, 1943, the court indicated from the bench that it might well conclude that the phrase “full voting power” entitled the preferred stock to “exclusive” voting power. Shortly thereafter, on March 23, Webster Eisenlohr, Inc., sent to its stockholders copies of the company‘s annual report for the year 1942. This report stated, “The net profit from operations for the calendar year amounted to $405,451.73 before provision for Federal Income Taxes, and to $235,751.73 after deduction of $169,700 as the estimated amount required for such taxes, as compared with $192,595.24 for the preceding calendar year in which no provision for Federal Income Taxes was considered necessary or made. This was equivalent to
* No opinion for publication.
On April 20, 1943 counsel for Webster Eisenlohr, Inc., sent Judge Kalodner certain letters and documents requested by him. These included a copy of an agreement between the company and White, Weld & Co. whereby these brokers were to receive a fee of $10,000 for purchasing the stock, a copy of the understanding between the company and counsel for Speese, and a copy of the company‘s annual report for 1942 from which I have quoted, with accompanying financial statements. Included also with the letter to Judge Kalodner was a letter dated April 15, 1943, written by New York counsel for Webster Eisenlohr, Inc., to that company‘s Philadelphia counsel. This letter shows that counsel for Speese was to receive $7.50 per share for each share of preferred stock delivered and sold to the company‘s brokers and that the company furnished this counsel a list so that he could get in touch with the preferred stockholders.1
At the next hearing which was on April 30 Judge Kalodner indicated his belief that the financial statement sent to its stockholders by the corporation was misleading in that it indicated to the preferred stockholders that their stock presently would receive but $7 a share by way of dividends, the balance of the corporate earnings being available for the common stock. Counsel for the company denied the correctness of the court‘s remarks. Judge Kalodner also criticized severely the letter of March 26 which had been sent to the preferred stockholders offering to buy their stock at $150 a share because, he asserted, there was no disclosure of the fact that the company‘s earnings for the first quarter of 1943 amounted to approximately $26 per share which might be available for the preferred stock. The company through its counsel insisted that this sum could not be deemed to be allocable to the preferred stock because the charter provided that dividends could be paid defendants only out of “surplus profits.”2
At a hearing on May 24, 1943, counsel for Speese stated to the court that he had no client, that Speese‘s stock had been purchased as had that belonging to the other stockholders whom he had represented, and that only a few stockholders remained who had not sold their preferred stock to the company.3 He also said: “The Court took the position that it was interested in this settlement. We went over the facts of the
At some date not clear from the record but probably about the time of the hearing of May 24, counsel for Speese sent a letter “To the Remaining Preferred Stockholders” of the company, giving information concerning Speese‘s suit and stating: “The gist of the suit was to settle, if possible, the long standing controversy between the preferred stockholders and the company as to whether or not the preferred stockholders should have the exclusive voting power in the company, in view of the default in the payment of dividends, as distinguished from the right to vote together with the common stockholders.” This letter informed the remaining preferred stockholders that since the Speese suit was instituted the company had “acquired at $150.00 flat per share and cancelled 4047 shares of the preferred stock, and 990 shares are now outstanding“; that Speese‘s shares had been purchased by the company and that as a result of these developments “* * * the court action is presently without competent parties to carry on the litigation. As a shareholder who has not sold his stock, you may be entitled to intervene and carry on the suit, if you so desire.”
On June 9 the court entered the order complained of and gave the Special Master the directions set out in the majority opinion. The order of reference also directed the Special Master to make a report to the court and authorized him to examine directors and officers of the company and any other witnesses concerning the foregoing matters.
On June 26 argument was had before Judge Kalodner on a motion to vacate the order of reference. He refused to vacate it. The petition to this court followed.
The answer of the District Judge alleges that the president of the petitioner purchased a block of the petitioner‘s common stock in May 1943 “as disclosed by published Securities Exchange Commission reports“; that the management of the petitioner sent to Speese‘s counsel a list of the holders of shares of preferred stock and offered to pay him the sum of $7.50 per share as a brokerage commission for all shares which he assisted the company to purchase from preferred stockholders, and that counsel for Speese received this commission; and that these facts were not disclosed to the preferred stockholders. The District Judge also asserts in his answer that the management of the company agreed to pay a brokerage fee of $10,000 to White, Weld & Co., brokers, for procuring the sale of stock from preferred stockholders at the price of $150 per share and that this fact also was not disclosed to the preferred stockholders. No testimony was offered to or received by this court. There is, however, no fundamental difference between the parties as to any question of fact.
Certain aspects of the order of reference complained of and the law relating thereto require discussion.
I. The suit is a “spurious” class suit since it was brought by Speese as a preferred stockholder on his own behalf and on behalf of the other preferred stockholders and there is a common question of law and fact affecting the several rights of the preferred stockholders and a common relief sought. See
The majority say, and I agree, that a “judgment may only be properly given for something raised in the course of a litigation between the parties.” But this is not the point. Assuming that no issue raised by the pleading is embraced in the order of reference to the Special Master,5 I think it is plain that a district court of the United States, like any other court of comparable
holders were entitled to exclusive voting rights and did not get them. The majority then refer to the letter written by Speese‘s former counsel “To the Remaining Preferred Stockholders * * *” and treat this letter as a corroboration of the petitioner‘s assertion that the only issue presented by the pleadings in Speese‘s suit against Webster Eisenlohr, Inc. was the determination of the right to exclusive voting by the preferred stockholders. The complaint, however, as I construe it, contains a graver charge. It alleges that “* * * the assets and property of the defendant company are being managed, controlled, financed and otherwise disposed of for the sole benefit of the holders of the common stock to the irreparable injury and prejudice of the preferred stockholders, notwithstanding the financial ability of the defendant company to pay or secure the rights and privileges of said preferred stockholders.” The complaint alleges also that a bank controls a large block of the common stock of Webster Eisenlohr, Inc., and that its officers and directors who had been elected officers and directors of Webster Eisenlohr, Inc., were operating that company for the protection of the bank‘s interests in disregard of the rights of the preferred stockholders. These allegations constitute charges of corporate fraud and under our present system of pleading they are none the less potent because they are conclusions. Any preferred stockholder might intervene and avail himself of any of the causes of action set out by the pleading. Evidence offered by such an intervening stockholder could not be limited by what Speese‘s counsel deemed to be the single issue presented by the pleading which he had filed. It should be observed also that at the time Speese‘s counsel wrote the letter referred to he had ceased to represent Speese and in fact represented no stockholder. His interpretation of the issues presented by the pleading therefore may not be deemed to be binding even upon those preferred stockholders whom he had represented.
For the reasons stated I think it is impossible to say that the issues presented by the pleading are as restricted as the majority conclude. The Special Master was directed “to investigate; the acts, conduct, property liabilities, [and] financial condition [of Webster Eisenlohr, Inc.] * * *” Since the complaint prays for the appointment of a receiver and alleges that the property of the corporation has been used for the benefit of the common stockholders in derogation of the rights of the preferred stockholders, the court was entitled to make use of a master in order to advise itself in the premises. See Ex parte Peterson, 253 U.S. 300, 40 S.Ct. 543, 64 L.Ed. 919; In re Utilities Power & Light Corporation, 7 Cir., 90 F.2d 798, 800.
the circumstances of the settlement in order to determine whether or not it should be made? The examples which I have given are those in which a trust relationship exists but it is fundamental that the management of a corporation is in a position analogous to that of a trustee in respect to minority stockholders. A trust relationship requires that those in fiduciary positions disclose to their cestuis all pertinent information relating to the interests of the cestuis. It is fundamental that a relationship analogous to a trust relationship exists between the management of a corporation and its stockholders, the corporation and its officers being required to disclose fully to the stockholders all pertinent information relating to the financial condition of their company as well as any facts pertinent to any compromise of stockholders’ claims. The withholding of such information might invalidate such a compromise.
Under the circumstances presented by the case at bar it is not necessary to determine what may be the powers of a district court
This is so because the suit looks toward a decree of the court, even if it be only a decree of dismissal for want of prosecution. Any decree disposes of some rights of the litigants, substantive or procedural. Any decree, even if it be only a decree of dismissal, may be impeached at the term at which it was entered if it has been arrived at because a cestui or one in a position analogous to that of a cestui has been subjected to fraud, collusion, deceit, or to the withholding of pertinent information by those who are in a position of trust in relation to him. After the end of the term such a decree may be impeached by a bill of review. For this reason a court may and must take cognizance of the circumstances surrounding litigation before it. If it does not do so, the decree entered by it may become a nullity. A district court of the United States is empowered by
On the question of possible abuse of the court‘s discretion, referring specifically to the conduct of Webster Eisenlohr, Inc., I think it is apparent that that company‘s annual report for the year 1942, sent to stockholders on March 23, 1943, was lacking in candor. A preferred stockholder, unversed in corporate law, might have gathered from the report that despite the fact that the company had a net operating profit for the year 1942 in excess of $235,000, a sum sufficient to reduce the arrearage of accumulated dividends on the preferred7 stock by approximately 75%, only the sum of $7 per share was immediately available for the preferred stockholders, the balance being allocable to the common stock. It appeared also that the company was buying its preferred stock at $150 flat, the excess of $50 per share over the par value of the preferred stock being less than the company‘s net operating profit for the year. It is evident also that the company in the first quarter of 1943 made net profits allocable to the preferred stock of $26 a share. If the earnings continued at that rate by the end of 1943 the arrearages of cumulative dividends upon the preferred stock not only could have been wiped out but the stock could have been redeemed at its redemption value of approximately $197 a share.8 It appears also that Webster Eisenlohr, Inc., paid the sum of $750 per 100 share certificate to the plaintiff‘s attorney for the preferred stock which his clients, or those with whom he got in contact, sold to the company. This is an astonishing commission; more than 2,000% above that permitted to a broker on a regulated exchange. The brokerage house acting for the company also received a fee of $10,000 as compensation for its efforts in acquiring preferred stock for the company. It does not appear that the nature and extent of the brokerage fees were made known to the preferred stockholders. The consideration of these items might well have led Speese
II. At the reargument before this court, counsel for the petitioner stated that all preferred stock which had not been purchased by Webster Eisenlohr, Inc., had been redeemed by it as authorized by the charter. See note 8 supra. If this has occurred,9 and I can see no reason to doubt the correctness of counsel‘s statement, the position taken by the District Judge in making the order complained of is fortified by the provisions of
The Speese suit may run through one of five courses: (1) Either party may move the court to approve the compromise. (2) Speese may seek to continue the litigation, asserting that the compromise had been arrived at through the exercise of fraud, collusion or deceit. (3) The petitioner itself, seeking on like grounds to avoid the consequences of the compromise, might endeavor to proceed with the litigation. (4) Speese or the petitioner might move to dismiss the cause on the ground that it had been compromised. (5) If no action is taken by either party, the suit will be dismissed under that rule of the District Court for the Eastern District of Pennsylvania which provides that if no proceeding is taken in a cause for two consecutive years it “shall stand dismissed.” The petitioner has stip-
In the light of these circumstances is it not an unpersuasive technicality to insist that because the parties to the litigation have made no motion the District Court is without power presently to ascertain the facts upon which its ultimate approval or disapproval of the compromise must be based? For these reasons in addition to those already given under this phase of the case, I conclude that Judge Kalodner presently is entitled to enter an order similar to that complained of. The appellate tribunal, therefore, should not now limit the exercise of his discretion by a writ of mandamus.
The petitioner asserts that the order of reference was made in violation of the requirements of
III. The District Court exceeded its powers in one respect. It directed the master to investigate as to whether or not there had been any violation of Rule X-10B-5 of the Securities and Exchange Commission relating to the employment of manipulative and deceptive devices. As is pointed out in the petitioner‘s brief, the rule of the Commission referred to was promulgated under Section 23(a) of the Securities Exchange Act of 1934,
I conclude that the portion of the second paragraph of the order of June 9, reading: “the question as to whether or not there was any violation, of Rule X-10B-5 ‘Employment of Manipulative and Deceptive Devices’ of the Securities and Exchange Commission was and is beyond the jurisdiction of the District Court. The rest of the order, however, I think is unexceptionable. Accordingly a writ of mandamus should issue to the District Court directing it to strike out the words last quoted from the order of reference. As to all other parts of the order, the writ should be refused and the rule discharged. The writ of prohibition should be refused and the rule issued in respect thereto should be discharged.
I am authorized to state that Judge McLAUGHLIN concurs in the views expressed in this opinion.