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Schwab v. E.G. Potter Co.

Supreme Court of New York, Appellate Division

December 11, 1908

SCHWAB
v.
E. G. POTTER CO. et al.

[113 N.Y.S. 440] Henry H. Abbott, for appellant.

Robert S. Kristeller, for respondents.

Argued before PATTERSON, P. J., and McLAUGHLIN, LAUGHLIN, HOUGHTON, and SCOTT, JJ.

PATTERSON, P. J.

This appeal is from an interlocutory judgment overruling the plaintiff's demurrer to the second and third separate defenses contained in the joint answer of the defendants. Those defendants are the E. G. Potter Company, a corporation created and organized under the laws of the state of New York (but the nature of its business is not disclosed in the pleadings), and Ellis G. Potter, Edward F. Hull, and Hiram P. Freer, three of four directors of the company. The plaintiff is a shareholder in the Potter corporation, and he alleges in his complaint that he brings this action on behalf of himself and other stockholders, and its purpose is to procure a judgment restraining the defendant company, its directors and officers, from transferring the title and possession of a very valuable piece of real estate belonging to the corporation to another corporation presently to be referred to.

It appears by the complaint that a special meeting of the stockholders of the defendant corporation was held at its office on the 31st day of December, 1907, and at such meeting a resolution was passed, supported by a majority of the stockholders, which provided that the board of directors of the company be authorized, empowered, and directed to cause to be organized a corporation, at the expense of the defendant corporation, with a capital of $100,000, with the name of the Library Realty Company, or such other name as may be satisfactory to the officers of the defendant corporation, for the purpose of acquiring the real estate of the defendant corporation, No. 477 Fifth avenue, and to accept as the consideration for such conveyance all of the capital stock of the new corporation, and that the board of directors of the defendant corporation be authorized, empowered, and [113 N.Y.S. 441] directed to transfer to such new corporation such real estate, subject to existing mortgages of $350,000, and to receive in exchange for the equity in the real estate all of the capital stock of the new corporation. And then follows a provision that the board of directors of the defendant corporation are authorized, empowered, and directed to offer the $100,000 par value of stock of the new corporation for subscription to the stockholders of the defendant corporation on certain terms. It is further alleged in the complaint: That the capital stock of the defendant corporation consists of 3,500 shares of the par value of $100 each, of which 3,000 shares have been issued and 500 remain unissued; that the resolution above referred to was passed at the stockholders' meeting by a vote of 2,450 shares in favor and 550 shares opposed; that the plaintiff is an original incorporator of the defendant corporation and owns 100 shares of stock, for which he paid the sum of $10,000; that at the stockholders' meeting there was delivered to the several stockholders of the defendant corporation a statement of its assets and liabilities; that in the statement of assets, which was prepared by a firm of public accountants, the real property was valued at $498,000, which is $48,000 in excess of the sum for which it was proposed to sell the same to the new corporation; that the plaintiff has recently had the said property appraised by competent appraisers, and its value has been by them stated to be $525,000, and he believes that the property is actually of that value, which is $75,000 in excess of the price at which it is proposed to convey it to the contemplated new corporation. Plaintiff then sets forth that he is unwilling to subscribe to stock in the new corporation, and that, if the proposed plan is carried into effect, he and those similarly situated will be deprived, as stockholders of the defendant corporation, of all right and interest in the real estate, " and the title to said real property will be wrongfully and illegally transferred from the E. G. Potter Company to the said proposed new corporation and to the stockholders thereof at a low and inadequate valuation, and that the completion of the plan proposed in the said resolution will deprive the plaintiff and the other minority stockholders who are unwilling to subscribe to the stock of said new corporation of their interest as stockholders of the E. G. Potter Company in said property by force and without adequate compensation." It is further alleged in the complaint that the carrying out of the plan referred to will compel the plaintiff and other dissenting stockholders to pay what is in effect a forced assessment of 33 1/3 per cent. upon the par value of the capital stock owned by them respectively under penalty of being deprived of their proportionate interest in said real property for an arbitrarily fixed and inadequate valuation. And it is further alleged:

" That said plan is in all respects unjust and illegal and calculated to injuriously affect the rights of and damage the stockholders of said company who are unwilling or unable to subscribe and pay for the stock of said new corporation to be organized pursuant to the said resolution."

The defendants jointly answered the complaint and, after certain admissions and denials, set up for a further and separate defense that the agreement to sell the real estate of the company was entered into [113 N.Y.S. 442] only after mature deliberation by the directors and officers of the defendant company, and that in their judgment the price at which the property was to be sold was adequate and proper; and further, as a second separate defense, that it was necessary to sell the property at said sum of $450,000, or even less, if said price could not have been obtained, to conserve the interests of the stockholders of the defendant company; and further, as a third separate defense, that the agreement to sell the property pursuant to the resolution referred to in the complaint was ratified and confirmed by stockholders representing over two-thirds of the capital stock of the company.

The learned judge at Special Term, in determining the issue of law raised by the demurrer, did not pass upon the sufficiency of either of the separate defenses; but, searching the record for the first fault in pleading, he examined the complaint and reached the conclusion that it was defective, in that it did not state a cause of action, and therefore the demurrer was overruled. This conclusion was arrived at on the theory that the transaction set forth in the complaint was nothing more nor less than a sale by the defendant corporation of some of its property, capital stock of another corporation to be received as the consideration, and that the acts of which the plaintiff complains were simply those of administration of the affairs of a corporation, with which the court would not interfere at the suit of a discontented minority stockholder.

If that were all that is involved in this action, according to the allegations of the complaint, there would be no difficulty in sustaining this interlocutory judgment, for it is beyond controversy that an act clearly within the powers of the board of directors of a corporation and of the majority of its stockholders will not be interfered with, in the absence of fraud, for the business of the corporation must be conducted by itself, and not by the courts. Gamble v. Queens Water Co., 123 N.Y. 91, 25 N.E. 201,9 L.R.A. 527,Continental Insurance Company v. Railroad Co., 103 A.D. 282, 93 N.Y.Supp. 27, Id.,187 N.Y. 225, 79 N.E. 1026,Colby v. Equitable Trust Co., 124 A.D. 262, 108 N.Y.Supp. 978, and other cases that might be cited, plainly indicate the established rule of law on that subject. But it is evident from the allegations of this complaint, and from the inferences that fairly may be drawn from such allegations, that what was in the contemplation of the directors and majority stockholders of the defendant corporation was not to have that corporation make an actual sale of the real estate to another corporation and receive shares of stock as the consideration therefor, but to resort to a device by which to increase its capital by dismembering itself and organizing another corporation of which it should be the only stockholder, and thus evade the provisions of the statute relating to the increase of the capital stock of a corporation. The defendant corporation, by the resolution, is authorized and directed to create a new corporation at the expense of the old one. What it is to do therefore is to be a corporate act done in its capacity as a corporation. Instead of increasing its capital stock in the manner provided by law, it is to separate its assets, deliver one portion of them to its own creature, capitalize that portion at a fixed valuation, and receive back all the shares of [113 N.Y.S. 443] stock issued by its creature; and there that transaction really ends. Affording an opportunity to the stockholders of the old corporation to subscribe to the stock of the new one is merely an offer to them to buy from the old corporation this new stock after it comes into the possession of the old corporation. I am unable to find authority for such action as that taken at this stockholders' meeting. What was done thereat, and what the directors of the defendant corporation were instructed to do, are things beyond the power of that corporation. A corporation cannot split itself up into two or more independent corporate entities. The minority stockholders are aggrieved, and, if the view I have taken of this transaction is the correct one, it cannot be contended successfully that the minority stockholders may not maintain a suit to enjoin the ultra vires acts of their corporation. It is no answer to say that the plaintiff and other minority stockholders are not injured. Manifestly, they may be injured.

This brings us to the consideration of the demurrer to the second and third separate defenses above adverted to. I think the demurrer was well taken. The second defense is that:

" It was necessary to sell the property at the said sum of $450,000, or even less, if said price could not have been obtained, to conserve the interests of the stockholders of the defendant corporation."

This statement of a defense presents no fact from which it could be inferred that a sale of the property was necessary. It is merely a conclusion of the pleader as to such necessity.

As to the third alleged separate defense, namely, that the agreement to sell the property pursuant to the resolution stated in the complaint was ratified and confirmed by stockholders representing over two-thirds of the capital stock of the company, that does not constitute a defense, for the plaintiff stands upon the illegality of the original action of the stockholders, and, if that is radically unlawful, the question of ratification is not involved in the controversy. Beside which, it is not made to appear in the answer that any agreement has actually been made to sell the property pursuant to the resolution.

I am of opinion that the interlocutory judgment should be reversed, with costs, and the demurrer to the separate defenses sustained, with costs, with leave to the defendants to amend their answer on ...


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