The opinion of the court was delivered by: LASKER
These four derivative actions, brought by minority stockholders of the International Telephone and Telegraph Corporation (ITT), allege violations of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78a-78kk, breach of fiduciary duty, waste and common law fraud, arising out of "questionable payments"
made by employees of ITT, at home and abroad, between 1971 and 1975.
The defendants, directors of ITT and Arthur Andersen & Co., ITT's independent auditor, move for summary judgment under Rule 56, Fed.R.Civ.P., dismissing all the complaints on the ground that the suits are barred by the determination of a disinterested committee of the ITT Board of Directors, in the exercise of its business judgment, that pursuit of these actions is not in the best interest of the corporation. Alternatively, the defendants move to dismiss the complaints under Rule 12(b)(6) for failure to state a claim. In opposition, the plaintiffs argue that the business judgment rule is inapplicable to the facts of this case and that the complaints are legally sufficient.
In December of 1975, the Legal Affairs Committee of ITT's Board of Directors undertook an investigation of possibly improper payments made by the corporation during the years 1971 through 1975. The decision to conduct this review followed two widely publicized investigations by Committees of the United States Senate
into ITT's political contributions in Chile during the early 1970s and an inquiry by the Securities Exchange Commission (SEC) into ITT's activities abroad with particular emphasis on tax payments by the corporation's subsidiaries in Italy. The investigation, which was conducted jointly by ITT's Legal Department and by a New York City law firm, involved the examinations, through both questionnaires and interviews, of seventy ITT executives, domestic and foreign, as to political contributions, payments to governmental and commercial customers and mislabelling of accounts.
The results of the investigation were published in a Special Report included in the 1975 Annual Report to ITT's shareholders, issued in March of 1976, which concluded that during the years 1971 through 1975 approximately $ 3.8 million was paid, in addition to customary sales commissions, to "assist in developing or improving business opportunities." (1975 Annual Report, p. 20) The Report also disclosed that, during the same period, domestic subsidiaries of ITT contributed approximately $ 4,300. apparently illegally
to federal election campaigns; approximately $ 60,000. to political campaigns in jurisdictions where such payments were legal; and that payments were made to tax officials to adjust prior tax liabilities of newly acquired foreign companies in amounts not included in the total figure. Moreover, the Report noted that "presents" and "payments of modest value" to government officials were made during these years but that the total value of such expenditures was considered insignificant and therefore not included.
The Report concluded that no directors or senior officers of ITT authorized the payments, that the aggregate of the payments was minimal in light of the "scope and magnitude" of ITT's total sales during this period, but also noted that steps had been taken at the March, 1976, meeting of the Board to prevent a recurrence of these practices through the adoption of a "Statement of Corporate Policies and Directives" which, among other things, resolved:
". . . that no assets of the ITT System will be used directly or indirectly, at home or abroad, for political purposes, including the support of any candidate or party, even in those countries where it may be traditional, customary and legal to do so. The ITT System is not to become involved in the internal political affairs of host countries. . . .
"that the ITT System, in its relations with governmental agencies or customers, will not, directly or indirectly, engage in bribery, kickbacks, payoffs, or other corrupt business practices.
"that ITT System funds or assets will be utilized solely for a lawful and proper purpose and no transfer or expenditure of such funds or assets will be undertaken unless the stated purpose is in fact the actual purpose, and the transfer or expenditure is authorized in writing and within ITT System policy."
Within two business days of the publication of the Special Report, two of the complaints involved here, Rosengarten v. ITT, et al. and Goodkind v. Geneen, et al., were filed. The claims are substantially the same in both. Each complaint, brought on behalf of ITT by minority stockholders, alleges violations of the reporting requirements of § 13(a) of the 1934 Exchange Act, 15 U.S.C. § 78m(a), and of the proxy solicitation rules of § 14(a) of the Act, 15 U.S.C. § 78n(a), stemming from the defendants' failure to disclose the payments set out in the 1975 Annual Report in filings with the SEC and in proxies relating to the election of directors. In addition, Goodkind asserts as pendant state law claims that the payments constituted a waste of corporate assets and were made in breach of the defendants' fiduciary duty to ITT. Mesh v. Bennett, et al., filed in December of 1976, has a somewhat different focus. It alleges violations of §§ 13(a), 14(a), and 10(b) of the Exchange Act, 15 U.S.C. §§ 78m(a), 78n(a) and 78j(b), and breach of fiduciary duty as a result of the defendants' failure to disclose the payments at the 1974 annual stockholders' meeting during which amendments to ITT's Career Executive Incentive Stock Purchase Plan (CEISPP) were approved. Kramer v. ITT, et al., commenced in May of 1976 in Philadelphia and subsequently transferred to this court, also alleges wholesale violations of the Exchange Act in connection with the payments disclosed in the Special Report. However, the only defendant who has been served in Kramer is Arthur Andersen & Co. which is apparently being sued as an aider and abettor although the complaint sets out no explicit theory of liability against it and, indeed, mentions Andersen only once to identify it as ITT's auditor.
In January of 1977, the ITT Board of Directors established a Special Review Committee composed of three outside directors, not affiliated with the corporation at the time of the wrongs complained of and not named as defendants in the lawsuits, to act for the Board in determining whether it would be in the best interest of ITT to prosecute these derivative suits. The Committee, whose members were Chairman Terry Sanford, former Governor of North Carolina and presently President of Duke University, Thomas W. Keesee Jr., Director of the Bessemer Securities Corporation, and Frederic C. Hamilton, President of Hamilton Brothers Oil Company, set out to fill in possible gaps in the findings of the earlier Legal Affairs Committee Report. In particular, the Special Review Committee (1) focused on payments by foreign subsidiaries of ITT which had refused to give more than limited information as to their export payments to the earlier investigators and (2) attempted to assign a dollar figure to payments, such as Italian tax expenditures, known of at the time of the Special Report but not examined in detail.
The Committee concluded in an eighty page report that the total amount of questionable, or possibly questionable, payments made by ITT during the period 1971 through 1975 was $ 8.7 million and that the aggregate amount of political contributions approximated $ 189,000. These figures are in contrast to the $ 3.5 million
in questionable payments and $ 64,300. in political contributions listed in the earlier findings. Of the additional $ 5.2 million in questionable payments uncovered by the Sanford Committee, $ 3.5 million was attributed to payments in connection with export sales by two foreign subsidiaries,.$ 1.2 million to the payments described generally in the Special Report as "presents" and "payments of modest value", and $ 500,000. to payments by newly acquired Italian subsidiaries in settlement of tax liabilities. The additional political contributions were attributed to a $ 125,000. payment in 1972 to the anti-communist Chilean newspaper, El Mercurio. The aggregate figure reached by the Sanford Committee for political contributions does not include two payments made in 1970, prior to the period covered in the Committee's report, of $ 350,000. to the political campaign of Jorge Alessandri Rodriguez, the conservative opponent of Salvador Allende Gossens in the 1970 presidential election, and an earlier payment of $ 100,000. to El Mercurio.
Despite the discovery of payments substantially in excess of those described in the Special Report, the Sanford Committee concluded that it would not be in the best interest of ITT to prosecute the derivative actions. The Committee noted that the vast majority of the payments were made in countries where such expenditures are legal; indeed, in many cases the payments were a necessary means of obtaining business. It concluded that there had been no waste of ITT's assets since the payments appeared to have been motivated by a desire to further the business interests of ITT rather than by self-dealing and did not appear to have injured the corporation. Moreover, the Committee found that none of the defendants, including Arthur Andersen, had acted negligently or otherwise improperly; and that the suits were unnecessary as policing actions since the possibility of recurrence was slight in light of ITT's new written guidelines forbidding such practices. Finally, the Committee noted the substantial problems which prosecution of the litigation presented, including the costs of maintaining the lawsuits, the ...