Appeal from a judgment of the United States District Court for the Southern District of New York (Lloyd F. MacMahon, Judge), enjoining insurgent stockholders who prevailed in a proxy contest from assuming their positions as directors, and ordering a resolicitation of proxies, and a new election, on the ground that the insurgents' proxy materials failed to disclose certain material information. Reversed.
Van Graafeiland and Pratt, Circuit Judges, and Holden, District Judge.*fn*
This is an expedited appeal from a judgment of the United States District Court for the Southern District of New York (Lloyd F. MacMahon, Judge), entered after a bitter proxy contest in which shareholders of plaintiff GAF Corporation voted decisively to replace the corporation's incumbent board of directors with an insurgent slate headed by defendant Samuel J. Heyman. The district court ruled that the insurgents violated § 14(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78n(a) (1982), and Rule 14a-9(a) thereunder, 17 C.F.R. § 240.14a-9(a) (1983), by failing to disclose in their proxy materials any information concerning an action for breach of trust, brought by Heyman's sister against him and his mother a year before the 1983 campaign began, which GAF alleged cast doubt on Heyman's fitness to serve as a director. Although this family dispute among the Heymans did not involve GAF, the district court enjoined the entire insurgent slate from assuming the directorships to which they had been elected, set a new record date, and ordered a resolicitation of proxies and a new election. For the reasons below, we hold that non-disclosure of the Heyman family lawsuit was not a material omission in the context of this proxy contest. Accordingly, we reverse.
As will be apparent from the following recitation, this appeal arises out of a unique set of circumstances. Because our resolution of the central issue on appeal -- the materiality of the Heyman family lawsuit -- is tied so closely to the specific facts before us, we find it necessary to recount them in great detail.
GAF is a Delaware corporation primarily engaged in the manufacture of specialty chemicals and building materials. Its stock is publicly traded on the New York Stock Exchange. As of March 9, 1983, the record date for the election of directors at the 1983 annual meeting, GAF had 45,000 shareholders, with 14,333,750 shares of common and 2,478,062 shares of convertible preferred stock outstanding. Roughly 40 percent of these shares were controlled by institutional investors.
Since its initial public offering in 1976, GAF's chairman of the board and chief executive officer has been Dr. Jesse Werner, a chemist by trade, who headed the slate of incumbent director-nominees seeking re-election in 1983. Management's remaining nine nominees had served on the GAF board for periods ranging from two to thirteen years. As a group, GAF's incumbent directors and officers controlled approximately 3.8 percent of the corporation's common stock.
Werner's counterpart in the insurgent camp was Samuel J. Heyman, a Connecticut businessman. During 1982 and 1983 Heyman organized, financed, and was the principal spokesman for "The GAF Shareholders' Committee for New Management" (the Committee). The Committee's slate of nominees included a number of businessmen and a former United States Senator, all of whom were handpicked by Heyman. As of the record date, Heyman, who owned no GAF stock prior to 1981, controlled approximately 4.72 percent of the corporation's common stock. Together, the insurgent slate controlled roughly 5.5 percent of all outstanding shares.
B. The Events of 1982: Threatened Contest, Settlement Agreement, and Litigation Fallout
Heyman first attempted to influence GAF's policies in January 1982, when he proposed that the corporation either be liquidated or buy back a significant percentage of its outstanding stock. Werner dismissed both alternatives as not "practically feasible".
In February and March, Heyman stepped up the pressure on management by preparing for a proxy contest at the 1982 annual meeting, scheduled for April. However, when Werner informed Heyman that GAF had received overtures from several corporations concerning a merger of the entire corporation or a sale of the building materials business, GAF and Heyman entered into a written settlement agreement under which Heyman agreed to forego any challenge at the 1982 annual meeting in exchange for management's commitment to pursue these transactions. GAF also agreed to reimburse Heyman for $250,000 in expenses he claimed to have incurred. On March 22, GAF announced in a press release, without disclosing the settlement that had been reached the night before, that it was entertaining proposals from three corporations regarding merger or sale transactions with a "view toward maximizing near-term benefits to [GAF] shareholders".
While the settlement agreement established a temporary truce, it ultimately created more problems than it resolved. Depending on which side is believed, GAF was either unwilling or unable to consummate any of the transactions contemplated by the agreement. On September 22, GAF formally renewed hostilities by suing Heyman in the District Court for the Southern District of New York claiming misrepresentation and breach of contract because Heyman had incurred less than $250,000 in expenses in connection with his threatened proxy contest. GAF sought to recover the shortfall.
On November 10, Heyman struck back in the same court with an individual and stockholders' derivative action against GAF and its board. His complaint alleged, among other things, that the board had made false representations concerning potential merger and sale negotiations in order to induce the Committee to withdraw its plan to wage a proxy contest in 1982, and continued to make such false representations in later progress reports to shareholders, with the objective of inducing shareholders to vote for management at the 1983 annual meeting. Both of these actions are pending.
Having been unable to influence the corporation's policies in 1982, Heyman decided to escalate his efforts in 1983. On January 27, he served a demand on GAF to inspect and copy a current list of shareholders under Del. Code Ann. tit. 8, § 220 (1974 & Supp. 1982). When management refused, Heyman secured an order in the Delaware Chancery Court on February 16 requiring GAF to comply with his demand.
Before this order was issued, Heyman and his counsel met with Werner and counsel to the board in a final attempt to avoid what promised to be a costly and disruptive proxy war. At this meeting, Heyman reportedly offered to withdraw his challenge if Werner would resign. Not surprisingly, his offer was rejected, thus clearing the stage for the 1983 campaign.
The proxy contest was fiercely fought on several fronts. In addition to sending proxy materials directly to shareholders, both sides placed advertisements in the New York Times and the Wall Street Journal. The "total mix" of information available at the time of the election also included the many news stories that the closely watched contest had generated.
In the early stages of the contest, the insurgent Committee hammered away at two central themes. First, the Committee challenged the Werner management's 18-year record at GAF. Specifically, the Committee emphasized that:
(1) GAF common shares had lost more than 80 percent of their market value (adjusted for inflation);
(2) Dividends on GAF's common stock had recently been slashed by 75 percent to an all-time low;
(3) GAF had reported an average net income of less than $.22 per share annually, and the book value of its common stock had dropped from $14.97 per share to $4.58 per share;
(4) GAF had reported an aggregate operating loss of more than $46,000,000 in 1981 and 1982;
(5) Werner had pursued a program of random and haphazard acquisitions that cost the corporation hundreds of millions of dollars;
(6) Werner's record for executive turnover featured the termination of three successive GAF presidents in a two-year period; and
(7) Despite all of the foregoing, Werner had been "rewarded" with increasingly excessive compensation packages.
The Committee underscored these points by selectively quoting excerpts from the financial press that were sharply critical of GAF, in general, and Werner, in particular. For example, Forbes Magazine had described GAF as having "one of the worst corporate performance records in American industry." Similarly, Adweek had ranked Werner as one of the seven "most overpaid people in America."
The second theme in the platform unveiled by the Committee was its program to realize GAF's underlying values for its shareholders. The Committee advocated retention of GAF's building products division, at least until conditions in the housing market improved, and an immediate sale of the corporation's chemical business and classical radio station. After retirement of the corporation's long-term debt, the Committee's program envisioned a substantial distribution of the remaining cash proceeds to shareholders. Among the proxy materials circulated in support of this program were favorable opinion letters from the Committee's investment banker, Prudential-Bache, and its accounting firm, Arthur Andersen & Co.
Responding to the issues raised by the Committee, the incumbents defended their performance, criticized the Committee's program, and proposed an alternative program. With respect to their own financial record, they questioned the selected statistics, convenient years, and self-serving definitions relied on by the Committee. Further, the incumbents emphasized that the market price of GAF stock had soared recently.
As to the Committee's program, the incumbents initially opposed a sale of the chemical business and instead advocated disposition of the building products division. According to the incumbents, the Committee's plan to sell off the chemical division, retire the corporation's long-term debt, and distribute the remaining proceeds to shareholders was based on an unrealistic estimate of the market value of that division. They also argued that it would not be advisable to eliminate the reliable and highly profitable chemical business and become totally dependent on the cyclical building materials business. To buttress their position, the incumbents circulated an opinion letter from GAF's investment banker, Morgan Stanley & Co., which proclaimed that "the GAF Plan is superior".
While both sides' proxy materials focused primarily on these economic issues, the campaign was not without its share of personal attacks. For openers, each side repeatedly accused the other of bad faith in connection with the 1982 settlement. Beyond this, the Committee revealed that Robert Spitzer, one of GAF's outside directors, had testified under immunity in a 1979 federal prosecution that he had made illegal cash payoffs to a union official in return for labor concessions for Treadwell Corporation. The Committee also charged that Werner, a classical music enthusiast, had acquired GAF's unprofitable radio station to indulge his own personal hobby at the corporation's expense. The incumbents, on the other hand, went to great lengths to portray Heyman and the other members of the Committee as inexperienced opportunists who lacked the sound judgment needed to steward a public corporation. Perhaps a new low in corporate conflict was reached when, after meeting Heyman's children at a social event, Werner commented that "they looked as though they were rented for the evening."
During the last few weeks of the campaign, the substantive economic issues took on even greater importance when GAF announced a series of proposed transactions. On April 10, the corporation announced that the board had approved a leveraged buy-out of the building materials group by Southwestern General Corporation. This transaction, however, was "subject, among other things, to the preparation and execution of definitive agreements", with "no assurance that [it] will ultimately be consummated." Two days later, on April 12, GAF announced that it had entered into a back-up agreement under which Odyssey Partners would undertake to complete the buy-out of the building materials group if the deal with Southwestern General fell through.
Predictably, both of these deals were assailed by the insurgents. Then, unpredictably, on April 22, less than one week before the annual meeting, GAF announced that it had entered into a contract to sell the chemical business to Allied Corporation. The Committee promptly claimed that the plan it had espoused from the outset of the contest had been vindicated. At the same time, it cautioned shareholders that this latter deal could be jettisoned if the Werner management were re-elected. In fact, after the district court enjoined the insurgents from taking office, GAF did announce that the transactions with both Southwest General and Allied had been cancelled.
The annual meeting on April 28 was just as chaotic as the last few weeks of the contest. In a transparent attempt to stave off defeat, the incumbent board refused to close the polls at the conclusion of the meeting. The Committee then obtained an order from the Delaware Chancery Court directing the Inspectors of Election to proceed with the tabulation of votes. The final tabulation confirmed that 58.6 percent of the shareholders favored the Committee over the incumbent board.
D. The Connecticut Action
On May 17, 1982, several months after the 1982 settlement between Heymand and GAF, Heyman's sister, Abigail, filed suit against him and his mother in the United States District Court for the District of Connecticut. Abigail's 28-page complaint alleged that while acting in several fiduciary capacities, including partner, attorney-in-fact, and trustee, Heyman had denied Abigail information concerning her personal assets and converted some of these assets to his own use. For example, the complaint charged that:
(1) Contrary to the express terms of Conn. Gen. Stat. Ann. § 34-58 (West 1981), which provides that partners "shall render on demand true and full information of all things affecting the partnership to any partner", Heyman "consistently refused to disclose even the most basic or summary information concerning the partnership" into which he had placed Abigail's liquid assets;
(2) Heyman dealt with the assets of the partnership "as though personally owned" and on information and belief "diverted assets from this partnership into one or more * * * business entities, controlled or totally owned by him";
(3) Heyman made substantial contributions of Abigail's property to his personal charities without her knowledge or consent; and
(4) Heyman "utilized his control over her assets and trust funds for his own personal benefit, ignoring his duties as a trustee and/or agent, attorney-in-fact, and co-partner."
The complaint sought an accounting, an order requiring disclosure of the information withheld, an order requiring a separation of assets, compensatory damages, punitive damages, and treble ...