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Walton v. Stanley

decided: June 4, 1980.

KATHRYN R. WALTON AND IRMGART VAN DAELL HECKEL, PLAINTIFFS-APPELLANTS,
v.
MORGAN STANLEY & CO. INCORPORATED, DEFENDANT-APPELLEE, AND OLINKRAFT, INC., DEFENDANT



Appeal from a judgment entered in the United States District Court for the Southern District of New York, Lasker, J., dismissing complaint for lack of standing. Affirmed on the ground that appellants failed to state a claim upon which relief may be granted.

Before Lumbard, Oakes and Newman, Circuit Judges.

Author: Lumbard

Kathryn R. Walton and Irmgart Van Daell Heckel appeal from an order entered by Judge Morris Lasker in the District Court for the Southern District of New York on October 10, 1979. The district court dismissed appellants' complaint, which they had filed derivatively on behalf of Olinkraft, Inc. and which alleged that Morgan Stanley & Co., Inc. had breached a fiduciary duty it owed to Olinkraft, because appellants had not alleged any injury to Olinkraft and therefore, according to the district court, they lacked standing. We affirm the district court's order on a different ground: that appellants had failed to state a claim upon which relief may be granted.*fn1

The allegations of appellants' complaint, which we must accept as true in testing the propriety of the dismissal of the complaint, state the following:

In 1977, Kennecott Copper Corporation engaged Morgan Stanley, the investment banking and financial advisory concern, to find a company that Kennecott could acquire. One company Morgan Stanley considered was Olinkraft, which manufactures paper and other forest products. Olinkraft's management "cooperated" with Morgan Stanley's Mergers and Acquisitions Department, "supplied it with highly favorable confidential internal earnings projections," and "instructed (it) that the Confidential Inside Information was to be used in connection with the Kennecott Bid and was to be returned to Olinkraft if such bid did not go through."

Kennecott did not make a bid for Olinkraft, but two other companies did. The first, Texas Eastern Corporation, announced an offer on July 17, 1978, to acquire Olinkraft by paying $51 for Olinkraft shares, which had been selling for approximately $31 to approximately $39.*fn2 After the announcement, Morgan Stanley's Arbitrage Department purchased, for Morgan Stanley's own account, 149,200 shares of Olinkraft common stock "upon the informed conviction that a competing offer at a higher price than $51 per share would be made for Olinkraft stock"; and after these purchases, Morgan Stanley's Mergers and Acquisitions Department, which knew of the Arbitrage Department's purchases, disclosed to Johns-Manville, which it was advising financially, the confidential Olinkraft information "in an effort to induce (Johns-Manville) to make a substantially higher offer than $51 per share."

On September 25, 1978, a Johns-Manville subsidiary created for the purpose of acquiring Olinkraft, JM Capital, announced an offer to pay $57 per Olinkraft share. On October 10, Texas Eastern announced an improved offer of $60 per Olinkraft share. Johns-Manville responded by increasing its offer to $65 per share on October 18. Texas Eastern then withdrew from the bidding, and Olinkraft and Johns-Manville agreed in principle to a merger at $65 per share.

On October 30, appellant Walton demanded that Olinkraft's board of directors commence proceedings to require Morgan Stanley to account for profits it made from its purchase of Olinkraft stock. Having been informed that the board would not act upon her demand, Walton filed her complaint on November 3.

The district court, citing Warth v. Seldin, 422 U.S. 490, 499, 95 S. Ct. 2197, 2205, 45 L. Ed. 2d 343 (1975), dismissed the complaint on the ground that the appellants, not having alleged that Morgan Stanley's actions injured Olinkraft, had not established standing. The appellants, citing Brophy v. Cities Service Co., 31 Del.Ch. 241, 70 A.2d 5 (1949), argue that injury is not a prerequisite of standing in this case because Delaware law, which governs in this diversity suit,*fn3 makes a breach of fiduciary duty actionable irrespective of injury. The appellants are correct, for Brophy, which the Delaware courts have consistently followed, states that a plaintiff need not allege injury to the corporation when claiming a breach of fiduciary duty and seeking an accounting of profits. 70 A.2d at 8.*fn4

Morgan Stanley has not defended the district court's rationale for dismissing appellants' complaint. Instead, Morgan Stanley argues that, far from a standing in a fiduciary relationship to Olinkraft, it represented first Kennecott and then Johns-Manville "under circumstances that clearly placed it in an arm's length position regarding Olinkraft," that it therefore breached no duty by disclosing the Olinkraft information to Johns-Manville, and that, accordingly, the appellants have failed to state a claim upon which relief may be granted. We agree.

Because this appeal acquaints us only with the complaint and the appellee's motion to dismiss, we do not have the benefit of findings of fact about whatever communication occurred between Olinkraft, the potential target, and Morgan Stanley, the financial advisor to the potential acquirer: how the communication proceeded, what understandings were reached, what assumptions or expectations the trade's practice would justify. But the only logical conclusion to be drawn from the complaint is that Olinkraft and Morgan Stanley dealt at arm's length. Morgan Stanley's client was Kennecott, and its task was to obtain information with which to advise Kennecott. Morgan Stanley was never hired by Olinkraft, nor was Morgan Stanley's task ever to act on Olinkraft's behalf. On the other hand, the constituents of Olinkraft's management were Olinkraft's shareholders, and the duty of its management was to act on the shareholders' behalf. In short, Morgan Stanley and Olinkraft's management were at all times responsible to different interests, and they had no relationship to each other before or other than in the acquisition discussions. Morgan Stanley and Olinkraft's management must be presumed to have dealt, absent evidence of an extraordinary relationship, at arm's length.

Appellants contend that Morgan Stanley became a fiduciary of Olinkraft by virtue of the receipt of the confidential information. However, the fact that the information was confidential did nothing, in and of itself, to change the relationship between Morgan Stanley and Olinkraft's management. Put bluntly, although, according to the complaint, Olinkraft's management placed its confidence in Morgan Stanley not to disclose the information, Morgan Stanley owed no duty to observe that confidence. To be sure, in some instances the management of a potential target, such as Olinkraft, might be required by its responsibility to the shareholders' interest to cooperate, and even to disclose confidential information, to a potential acquirer or a financial advisor who, as did Morgan Stanley, stands at arm's length. But that obligation, while it burdens management, which might therefore reasonably insist upon an agreement of confidentiality, does not change the relationship between the target and the acquirer or its advisor. Appellants' complaint alleges no such agreement or understanding.*fn5

Given the different constituents and responsibilities of Morgan Stanley and Olinkraft's management, appellants' reliance on Brophy and on Diamond v. Oreamuno, 24 N.Y.2d 494, 301 N.Y.S.2d 78, 248 N.E.2d 910 (1969), a New York case which adopted Brophy's reasoning, is misplaced. Those cases predicate an accounting of profits without an allegation and showing of injury upon the fiduciary relationship of the officer, director, or employee to his corporation. Beyond corporate officers, directors, and in some instances employees, Delaware law has found a fiduciary relationship between a corporation's majority shareholders and its minority shareholders, Singer v. Magnavox Co., Del.Supr., 380 A.2d 969 (1977); but appellants have failed to cite any case from Delaware or elsewhere, and we have not found any, that considers one in Morgan Stanley's position to stand in a fiduciary relationship to one in Olinkraft's.*fn6 Without some indication that the Delaware courts would accept appellants' theory of liability, we see no reason to extend Brophy beyond the established notion of a fiduciary, especially since Brophy represents an exception to the principle that standing requires injury. See Frigitemp Corp. v. Financial Dynamics Fund, Inc., 524 F.2d 275 (2d Cir. 1975), a diversity case that applied New York law which we have no reason to believe takes a narrower view of fiduciary relationships than does Delaware law and that refused to extend Brophy and Diamond to a situation where the nonpublic information upon which the defendant traded had been obtained in arm's length negotiations with the corporation on whose behalf the suit was brought.

In sum, the appellants have failed to state a claim upon which relief may be granted, for the complaint, although it alleges a breach of fiduciary duty, fails to state facts from which a fiduciary relationship arises ...


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