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LEVEN v. BIRRELL

July 11, 1949

LEVEN et al.
v.
BIRRELL et al.



The opinion of the court was delivered by: LEIBELL

On March 4, 1949 the plaintiffs herein, stockholders of the defendant Universal Laboratories, Inc., commenced an action against certain individuals, certain corporations, and against Universal and Borden as nominal defendants, to recover money damages for the benefit of Universal Laboratories, Inc. In this action only two individual defendants have been served with process or appeared, Morris H. Gotthilf, a member of the Board of Directors of Universal Laboratories, Inc., since August 4, 1047 and Ruby Schinasi, a member of the Board of Directors from February 14, 1947 to August 4, 1947.

On May 14, 1949 the defendants Universal Laboratories, Inc., Borden Avenue Utilities Corp., a subsidiary, and Morris H. Gotthilf moved this Court for an order requiring the plaintiffs to file security in the sum of $ 50,000 for the reasonable expenses and attorneys' fees which may be incurred by the defendant Universal Laboratories, Inc., in its own behalf or for which Universal may become liable to the individual defendants. Universal, Borden and Gotthilf also moved for an order either staying or dismissing this action because of the pendency of the Birnbaum action in this Court.

 The first part of this motion is based upon Sections 61-b and 64 of the New York General Corporation Law, McK. Consol. Laws, c 23. *fn1"

 The plaintiffs opposed the motion on the grounds (1) that Section 61-b of the New York General Corporation Law does not apply to cases in the federal courts where the jurisdiction is based upon diversity of citizenship; and (2) that the action is not against the individual defendants because of their acts or conduct while directors, officers or employees of Universal Laboratories, Inc., and that their expenses in the suit are not such as the corporation, Universal, may become liable for, under the terms of Section 64 of the statute.

 The first ground of opposition has been disposed of by the decision of the Supreme Court in Cohen v. Beneficial Industrial Loan Corp., 337 U.S. 541, 69 S. Ct. 1221, 93 L. Ed. 1528, wherein the Court held that a state statute *fn2" requiring the posting of security for the reasonable expenses, including counsel fees, which may be incurred by the corporation, and by other parties for which the corporation may become liable, in a suit instituted by a stockholder in behalf of the corporation, was applicable to such suits when brought in the federal courts on the jurisdictional grounds of diversity of citizenship.

 This action is brought on behalf of and in the right of Universal and Borden, nominal parties defendant, and if the gravamen of the claims for relief against the individual defendants were a breach of their fiduciary duties while they were directors or officers of Universal Laboratories, Inc., then the action would be within the purview of Section 61-b, requiring the posting of security. On the other hand the requirements of Section 61-b do not apply to non-fiduciary defendants. Hornstein, in an article in 43 Columbia Law Rev. 301, 304 (1943), (Expenses in Stockholders' Suits) discusses the question as follows:-

 'Non-fiduciary defendant. As has been stated, the legislation was sponsored avowedly for the purpose of acting as an inducement to persons who otherwise would not be likely to accept corporate directorship or officership. Consequently, despite the broad language of the statute, reimbursement has been refused in a stockholder's derivative suit to a defendant-employee who was neither director nor officer even though directors had also been named as defendants and has been reimbursed. 20* Aside from the careless wording of the statute, the result is logical, since no reason appears for giving anything more than ordinary 'costs' to a successful non-fiduciary defendant, whether or not directors are also named as defendants. The statute, however, should be clarified to be beyond the necessity for 'interpretation' on this point. Lumping together all types of defendants may make the statute seem less discriminatory, but it also makes the statute much more difficult to justify as a matter of policy.'

 The first cause of action alleged in the complaint is brought on behalf of Universal against certain individual defendants (Lowell M. Birrell, David T. Bonner, Morris H. Gotthilf, Stewart B. Hopps, Ruby Schinasi, William B. Yeager) and certain corporate defendants (American Druggists Syndicate, Inc., International Utilities Corporation, Louisville Fire & Marine Insurance Company, Rhode Island Insurance Company, Securities Corporation General, The Greater New York Industries, Inc., Universal Laboratories, Inc. and Borden Avenue Utilities Corporation). Schinasi was the only individual defendant served. Two corporate defendants, Greater New York and International were also served.

 The complaint alleges:-

 '10. At all times hereinafter referred to, defendant Birrell, in association with defendants Bonner, Hopps, Schinasi and Yeager, dominated and controlled the business and affairs of defendant Greater New York by means of ownership, directly or indirectly, of the largest block of its voting stock; of constituting a majority at its stockholders' meetings; and of electing themselves and/or persons completely subservient to them as its directors and officers. At all times hereinafter referred to, the individual defendants named in this paragraph likewise dominated and controlled the business and affairs of defendant Louisville by means of ownership by defendant Greater New York of all or substantially all of Louisville's voting stock and of election as principal officers of Louisville of said individual defendants and/or persons completely subservient to them. At all times hereinafter referred to, said individual defendants likewise dominated and controlled defendants SCG, Rhode Island and international by means of ownership by said individual defendants, by defendant Greater New York, by defendant Louisville and by other persons, firms and corporations subservient to said individual defendants of the largest blocks of the voting stock of defendants SCG, Rhode Island and International; of constituting a majority at the stockholders' meetings of defendants SCG, Rhode Island and International; and of electing themselves and/or persons completely subservient to them as the directors and principal officers of defendants SCG, Rhode Island and International. The individuals and corporations named in this paragraph are hereinafter sometimes collectively referred to as the Birrell group.

 '11. In or about the month of March, 1946, the Birrell group entered into a conspiracy with the then directors and officers of Universal and Borden to mulct Universal and Borden for the benefit, directly or indirectly, of the Birrell group and of Universal's and Borden's directors and officers and otherwise to waste and divert Universal's and Borden's assets. Each director and officer of Universal and Borden who thereafter was elected or appointed as such became party to said conspiracy upon his assumption of office and thereafter with full knowledge of the facts, participated in and furthered said conspiracy.'

 '12. The inducements offered to and accepted by the directors and officers of Universal and Borden to participate in said plan and conspiracy included purchase of substantial blocks of Universal stock held by said directors and officers by the Birrell group at prices greatly in excess of fair and market value.

 '13. On or about March 5, 1946, Universal and defendant Greater New York entered into an agreement for the purchase by defendant Greater New York from Universal of all the capital stock of Universal's wholly owned subsidiary, American Druggists, together with an account payable by American Druggists to Universal in the amount of $ 821,628.96. The price stipulated in said agreement was the sum of the following:

 'a. An amount equal to net current assets over current liabilities of American Druggists as of December 31, 1945, excluding the aforementioned liability to Universal of $ 821,628.96 and excluding also machinery, equipment, furniture, fixtures, good will, patents and trademarks.

 'b. An amount equal to the appraised value on closing of machinery, equipment, furniture and fixtures.

 'c. $ 250,000 for good will, patents and trademarks.

 '14. The good will, patents and trademarks of American Druggists had a fair value of at least $ 400,000, as was well known to all the defendants and to the then directors and officers of Universal.

 '15. The transactions contemplated by said agreement dated March 5, 1946 were closed on or about April 19, 1946.

 '16. On or about April 19, 1946, there was paid to Universal by defendant Greater New York the sum of $ 484,127.87, purportedly in satisfaction of the portion of the price referred to in subdivisions a and b of paragraph 13 hereof, after adjustments as of the closing date. At all times between March 5, 1946 and April 19, 1946. American Druggists was a solvent going concern. The said sum of $ 484,127.87 was purportedly arrived at by grossly undervaluing various of the substantial assets of American Druggists a capital deficit of over $ 335,000. The amount actually due Universal for the portion of the price referred to in subdivisions a and b of paragraph 13 hereof, after adjustments as of the closing date, was at least $ 819,127.87, as was well known to all the defendants and to the then directors and officers of Universal.

 '17. Upon said closing, defendant Greater New York delivered to Universal, for good will, patents and trademarks of American Druggists as referred to in subdivision c of paragraph 13 hereof, the promissory note of defendant Greater New York in the amount of $ 250,000, payable in twelve equal monthly installments commencing September 1, 1946.

 '18. The transactions hereinbefore alleged were not negotiated or consummated at arms' length between Universal and defendant Greater New York but in pursuance of the plan and ...


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