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NEUMAN v. PIKE

May 26, 1978

Carl H. NEUMAN, Plaintiff,
v.
Otis G. PIKE, Defendant



The opinion of the court was delivered by: BRODERICK

MEMORANDUM DECISION

The following facts, which I find, provide the framework within which the issues in this lawsuit arose.

 The Long Island Home, Ltd. ("the Corporation") is an old, well-run, and profitable psychiatric hospital and nursing home in Suffolk County, Long Island. Since 1949 Otis G. Pike, the defendant, has been a shareholder and director of the Corporation. In 1974 Pike decided to obtain control of the Corporation: by October, 1975 he had effectively done so. Certain of the maneuvers which he executed during the period 1974-1977 are a part of the subject matter of this action.

 The Corporation is closely held, with some 40 to 50 shareholders. Between 1949 and 1974, Pike and his wife acquired 276 shares of Corporation stock at an average cost of $ 154.00 per share. In 1974, the 276 shares represented approximately 9% Of the total number of shares outstanding.

 Prior to December, 1972, Frances Ryder Walker owned 843 shares of the Corporation, representing the single largest block of shares. In December, 1972, Mrs. Walker died and bequeathed her 843 shares to Columbia and Cornell Universities. In August, 1973, the Walker shares were offered for sale to various persons, including the Corporation and Pike.

 In 1974, at a time when Pike knew that the purchase of the Walker shares was under consideration by the Board of Directors of the Corporation, Pike decided to attempt to buy these shares as a first step towards gaining control of the Corporation for himself. He did not inform the Board of Directors of his intentions. Pike did not have enough money to finance the purchase himself. He called James B. Millard, a law school classmate and an old friend, and asked Millard to participate with him in the purchase of the Walker shares, to the end of acquiring control of the Corporation. Millard declined to participate himself, but undertook to attempt to find someone who would be willing and financially able to participate with Pike in the acquisition.

 Millard approached Dr. Carl H. Neuman, the plaintiff, whom Millard knew casually through a previous business matter. Neuman was a successful entrepreneur in the health care industry, and Millard knew him to have investments in, and management experience with, health care institutions.

 Neuman asked Millard how he knew Pike and whether or not Pike was a reliable partner for the venture. Millard informed Neuman that he had known Pike for approximately 25 years, and vouched for Pike's reliability.

 Neuman, who already knew of the Corporation, informally investigated the situation, discussing it with associates in the industry. He then told Millard that he would be willing to participate in the acquisition of shares in the Corporation with a view to obtaining a control position, provided that, if control was acquired, Neuman and Pike would share it equally. Millard transmitted Neuman's position to Pike, who, through Millard, agreed to the proviso.

 At that time Pike and Neuman had not met, and they did not in fact meet until March 8, 1975.

 Between November, 1974 and January 15, 1975, Millard, at the request of both Pike and Neuman, acted as agent for Pike and Neuman in negotiating for the purchase of the Walker shares. During these negotiations his principals were not disclosed: Pike had specifically instructed Millard that his role as a principal was not to be revealed.

 Upon Pike's instructions, with Neuman's assent, Millard offered $ 500 per share for the Walker stock. The offer was refused. Sometime thereafter, Pike suggested to Millard that he offer $ 800 per share for the Walker stock. Millard, again with Neuman's assent, did so. He was told by William Bloor, who was acting on behalf of Columbia and Cornell Universities with respect to the Walker shares, that the stock had already been sold. Bloor did not identify the putative purchaser, which, it later developed, was actually the Corporation. Although no contract of sale had been consummated when he spoke to Millard, Bloor apparently believed that a contract to sell the Walker shares to the Corporation was imminent.

 Millard reported his conversation with Bloor to Pike and Neuman. Pike told Millard that the sale which Bloor reported would not take place. When Millard asked Pike how he knew that, Pike's response was: "Never mind. Let's just say I'm playing a very sporting game here."

 He was indeed. At this very same time, November, 1974, the Board of Directors of the Corporation, with Pike participating, was considering whether or not it should purchase the Walker stock. The consensus of the Board was that $ 800 per share was too high a price, and a decision of the Board to that effect was transmitted to the Columbia-Cornell representative. Pike participated at the Board meeting in which this matter was considered, and never disclosed to the other Board members that he did not consider $ 800 per share too high a price, and that he was planning to participate with Neuman in a purchase of the Walker shares at that price.

 In December, 1974, Millard again offered on behalf of his undisclosed principals Pike and Neuman to purchase the Walker shares. This offer, at a price of approximately $ 828 per share, was accepted on or about January 15, 1975. A down payment of $ 30,000, furnished by Neuman, was made and a closing was scheduled for March 14, 1975.

 In January and February, 1975, Millard as agent for his undisclosed principals, and Pike, sought to purchase shares from other shareholders or (in the case of Pike) to obtain proxies from other shareholders.

 At a February 22, 1975 meeting of the Board of Directors of the Corporation, purchase of the Walker shares by the Corporation was again discussed. The directors at that point knew that "an outside group", represented by Millard, was attempting to acquire shares of the Corporation, since various shareholders had been approached. The members of the Board, aside from Pike, did not know that an agreement to purchase the Walker shares had already been made through Millard. Pike who did not reveal his relationship to Millard, opposed the purchase of the Walker shares by the Corporation, ostensibly because it would deplete the treasury. Despite Pike's opposition, the Board of Directors decided to write a letter with respect to the Walker shares, suggesting possible purchase of the shares by the Corporation at $ 850 per share. Pike was present when the decision to send this letter was made.

 On that same date the members of the Board, with the exception of Pike, sent a letter to shareholders of the Corporation. This letter was in response to a letter that Millard had sent to various shareholders, offering on behalf of "undisclosed associates" to purchase shares of the Corporation from these shareholders. In their letter, the Board members urged the shareholders not to sell their shares to Millard.

 Although some members of the Board suspected it in February, 1975, the directors as a group did not learn that Pike was involved in either the Walker share purchases or the Millard purchase offer to shareholders until May, 1975.

 On March 8, 1975 Pike and Neuman met for the first time. Also in attendance at that meeting were Millard and Andrew Schoen, Neuman's attorney. While the contract to purchase the Walker shares had already been made, the major part of the payment for the Walker shares (and for other shares needed for control to vest in Pike and Neuman) had not yet been made. As of March 8, 1975, Pike had contributed $ 108,800 in cash and had assumed personal obligations of $ 28,800.00 in connection with the acquisition venture and Neuman had contributed $ 70,500 in cash. The parties knew on March 8, 1975 that very substantial additional cash payments would be required and that Neuman would make such payments.

 At the meeting of March 8, 1975 Pike and Neuman discussed the manner of exercising the control they then anticipated obtaining. They agreed that when control was obtained:

 (a) Pike and Neuman would exercise control on an equal basis;

 (b) a Board of Directors would be elected for the Corporation consisting of five persons: Pike, Neuman, Millard, a designee of Pike, and a designee of Neuman their 1975 slate of Directors would consist of Pike, Neuman, Millard, Aaron Donner as Pike's nominee, and Andrew Schoen as Neuman's nominee;

 (c) Neuman would be president of the Corporation; Pike would be general counsel and Millard would be secretary;

 (d) the compensation paid by the Corporation to Neuman and to Pike would be equal; and

 (e) there would be restrictions on the transferability of stock by Pike and by Neuman.

 In fact, as subsequent developments made clear, Pike had no intention on March 8, 1975 or at any time of sharing control with Neuman, or of honoring his agreement with respect to the designation of directors. He was still playing "a very sporting game."

 After March 8, 1975, Neuman contributed $ 402,420 to the acquisition program. These monies were paid in reliance on the oral agreement which Neuman entered into with Pike on March 8, 1975.

 By the time control was acquired Pike had contributed cash, stock and notes in excess of $ 600,000 to the acquisition program, and Neuman had contributed cash and notes in excess of $ 700,000. *fn1"

 Millard acquired the Walker stock from the universities on March 14, 1975. On that same date he executed a declaration in which he acknowledged that all Corporation shares acquired by him were and would continue to be held by him as nominee for Neuman and Pike, who "provided the total consideration for said acquisition and they being the sole beneficiaries of such shares in accordance with a mutual agreement between them." The "mutual agreement" referred to by Millard in this nominee declaration was the oral agreement reached on March 8, 1975 between Pike and Neuman.

 By March 19, 1975, Pike and Millard had together accumulated 1,513 shares of the Corporation, constituting 52% Of the outstanding shares. Of the 1,513 shares, 843 were the Walker shares acquired and held by Millard as agent; 276 were shares which had been acquired by Pike prior to 1974; and 394 were shares bought on behalf of the venture by Pike and Millard from other stockholders, including 60 shares bought by Pike from one Grace Stevens. To insure the equal control to be exercised by Pike and Neuman, the 1,513 shares bought on behalf of the venture were to be split. That is, Pike and Neuman each owned, or had rights of ownership in, 756.5 shares of the Corporation.

 In March 1975, at the urging of John C. Robbins, a director and Secretary, the Board of Directors of the Corporation decided to refuse to effect a transfer of the registration of the Walker shares on the books of the Corporation; without such a transfer, the shares could not be voted. Robbins, while not certain, suspected that Pike was involved in the acquisition program being "fronted" by Millard. Ostensibly, the refusal to register the transfer was to be because of concern with the New York Public Health Law *fn2" and usurpation of corporate opportunity by Mr. Pike. In fact, the Board members were not sure of the legal bases for the refusal, and their motivation was a last ditch effort to preserve the ongoing Board as they realized they had lost control of the Corporation.

 Pike was concerned about possible transfer problems. In order to test the Board position Re transferring the stock, Pike, at the Board meeting of March 15, 1975, asked the Board to transfer the block of Stevens stock which he had purchased, as a "test case" for the larger block of Walker stock. The Board refused and on March 24, 1975 Pike brought an action in state court to compel the transfer.

 On April 22, 1975, a settlement of this Pike v. Robbins lawsuit was reached. One of the elements of the settlement, which was negotiated by Millard, was that for the year commencing May, 1975 Messrs. Weeks and Robbins, who had been directors for a period of years, would continue to be on the Board. While the presence of Weeks and Robbins on the Board would prevent Neuman and Pike from each designating a Board member in accordance with their March 8, 1975 agreement, Neuman consented that Weeks and Robbins would be elected to the Board for the year commencing May, 1975. *fn3"

 At the annual shareholders' meeting of May 1975, a Board was elected consisting of Pike, Neuman, Millard, Weeks and Robbins.

 At some point subsequent to the settlement of the Pike v. Robbins legal action, Weeks and Robbins became allied with Pike. Pike, Weeks and Robbins constituted a majority of the Board of Directors and hence effectively controlled the Corporation.

 Between May 1975 and October 18, 1975, drafts of a proposed written shareholders' agreement were prepared by Pike and Neuman's attorney, Schoen, and exchanged between Pike, Neuman and Millard. This proposed shareholders' agreement was intended to memorialize the oral agreement between Neuman and Pike of March 8, 1975. All of these proposed drafts provided for a Board of Directors, beginning May, 1976, consisting of Pike and a designee nominated by Pike, Neuman and a designee nominated by Neuman, and Millard. In a letter to Millard of June 6, 1975, Pike stated that he agreed with this formula for directors, but noted that "next May we might want to keep Robbins and Weeks on the board."

 On October 18, 1975, Neuman, Pike, Millard and Schoen met to discuss the latest draft of the proposed shareholders' agreement, prepared by Schoen. Pike refused to sign it. At that meeting Pike for the first time disclosed to Neuman that he would only agree to vote for Pike, Neuman and Millard; he would not sign any agreement requiring him to vote for designees of himself and Neuman as directors.

 Pike also told Neuman on October 18 that he could live without any shareholders' agreement at all. When Neuman protested that Pike's position was contrary to is earlier representations, Pike threatened to sell his stock to a third person.

 Millard was very upset when he heard Pike's position. He told Pike that Pike had a moral obligation to sign the agreement as it had been contemplated in March and in the drafts circulated since March. Millard was concerned because he had brought ...


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