The opinion of the court was delivered by: WERKER
commenced this class action against defendants
alleging, inter alia, violations of sections 11(a) and 12(2) of the Securities Act of 1933 (the "Securities Act"), 15 U.S.C. §§ 77k(a) and 77l (2), respectively; sections 10(b) and 14(a) of the Securities Exchange Act of 1934 (the "Exchange Act"), 15 U.S.C. §§ 78j(b) and 78n(a) as well as Rules 10b-5 and 14a-9 promulgated thereunder, 17 C.F.R. 240.10b-5, 14a-9, together with a pendent claim for alleged breach of fiduciary duties under state law arising out of the short-form merger of National General Corporation ("National") into American Financial Corporation ("Financial") on March 14, 1974.
Having agreed that the issues of liability do not involve factual disputes, the parties have cross-moved for summary judgment pursuant to Fed.R.Civ.P. 56(a) and (b).
Pursuant to a purchase agreement dated October 21, 1972, as amended on December 6, 1972, Financial contracted with a group of National shareholders, consisting in part of former officers and directors of National, (the "Schulman-Weintraub Group") to purchase 675,000 shares of National common stock. The agreements provided that Financial would pay for the stock partly in cash and the remainder by promissory notes delivered to the sellers. The agreement further provided that upon the closing Financial "will receive title to the National stock it is purchasing from each of the Sellers free and clear of encumbrances." Exh. 2 at 4. Additionally, under the terms of the agreement, all dividends payable on National's common stock were payable to Financial and Financial was entitled to voting rights as long as it was not in default under the terms of the promissory notes. The notes also provided for acceleration in the event of Financial's default.
At the closing, Financial made the required cash payment and executed and delivered the promissory notes; the Schulman-Weintraub Group delivered to Financial the purchased shares which were then registered in the name of Financial on the books of National. Financial pledged the shares as security for the promissory notes and delivered the shares to the Bank of America as escrow agent.
In January 1973, Financial entered into an agreement with certain officers and directors of National (the "Klein-Schwartz Group") to purchase 903,357 shares of National common stock in return for the payment of cash and delivery of Financial securities. Under the agreement Financial was obligated to make an identical offer to all other holders of National's common stock. Pursuant to that exchange offer, Financial acquired 6,658,000 shares of the common stock of National. Assuming Financial was the owner of the 675,000 shares of National common stock previously purchased from the Schulman-Weintraub Group, Financial was then the owner of approximately 94% of National's outstanding common stock.
On December 3, 1973, Financial filed a preliminary prospectus relating to a proposed merger of National into Financial. Upon learning of the intended merger, the members of the Schulman-Weintraub Group notified Financial of their objection to the merger. They advised Financial that it was in default under the notes and the pledge agreement since the proposed merger would destroy their collateral, i. e., the National common stock, which would cease to exist after the merger. Nevertheless, on March 11, 1974, the directors of Financial and National approved the terms of a short-form merger of National into Financial. On March 13, 1974, Financial exercised warrants it held for the purchase of 7,790,704 shares of National common stock. The following day, the merger of National into Financial allegedly became effective pursuant to the provisions of Ohio Revised Code Section 1701.80 and section 253 of the Delaware Corporation Law
under which a minimum of 90 percent stock ownership in the subsidiary by the parent corporation is required to effect a statutory short-form merger.
Two weeks after the merger, each member of the Schulman-Weintraub Group wrote identical letters to Financial asserting that Financial, as the owner of the pledged National common stock was "obligated to exercise the appraisal rights accorded to (Financial) . . . and to deliver the amounts received therefrom into the pledge." The letters further advised that failure to exercise the appraisal rights would be regarded as a breach of the pledge agreement. Exhs. 20-23.
On April 5, 1974, Financial requested the Bank of America as escrow agent to deliver the National shares held by it in exchange for Financial's 91/2% debentures, pursuant to the plan of merger. Exh. 25. The Bank of America would not release the pledged stock without authorization from the Schulman-Weintraub Group. That request for authorization was denied. The group asserted that the merger accelerated the payment date of the notes secured by the National stock and that in view of the ongoing controversy, it would be inappropriate to deliver the securities to Financial. Exh. 27.
In February 1975 certain members of the Schulman-Weintraub Group brought an action against Financial and certain individual defendants in this action in the United States District Court for the Central District of California seeking damages for Financial's refusal to exercise its appraisal rights with respect to the shares of National common stock pledged as security, acceleration of the payment of the notes, specific performance of the agreement between Financial and the Schulman-Weintraub Group, the imposition of a trust on the assets of National and an injunction enjoining the defendants from transferring any of National's assets. That action was subsequently settled upon the substitution by Financial of other collateral as security for Financial's promissory notes.
The action now pending before this court was commenced in July 1975 on behalf of the stockholders of National who tendered their shares in exchange for 91/2% debentures of Financial pursuant to the terms of the merger and was consolidated in April 1977 with another class action alleging the same wrongs.
The gravamen of the amended consolidated complaint is that defendants violated the anti-fraud provisions of the federal securities laws in that the merger prospectus was materially false and misleading. However, by agreement of the parties, only two issues relating to liability remain to be determined by the court as a matter of law: (1) whether Financial owned 90 percent or more of the stock of National on the date of merger; and (2) whether Financial unlawfully failed to disclose a possible tax liability to National resulting from a lapse or extinguishment of the warrants owned by Financial.
Plaintiffs contend that Financial improperly represented in the merger prospectus that it had the requisite 90 percent ownership of National common stock to effect a statutory short-form merger under Delaware corporate law.
The court disagrees.
Section 253 of the Delaware Corporation Law, permits a parent corporation owning at least 90 percent of the stock of a subsidiary to merge with the subsidiary upon approval by the parent's board of directors. The vote of the stockholders of the subsidiary is not required. Plaintiffs refute the ownership Financial allegedly acquired by both the Schulman-Weintraub acquisition and the exercise of warrants one day prior to the merger. For the reasons given below, the court finds that Financial was the owner of both groups of shares which together with its prior holdings gave it ...