Earl Warren: Number 316, Charles B. Smith, Petitioner, versus Milton Sperling et al. Mr. Williams, you may proceed.
Eugene D. Williams: Mr. Chief Justice and members of the Supreme Court, at the recess yesterday afternoon, I had partially read to the Court the findings upon which we rely in this case and which I considered to be the very gist of the case. And therefore, I shall, with your permission, proceed to read the further findings which I believe to be pertinent. Finding 5 which appear on page 76 of the record is as follows. "That it is not true either as alleged in the complaint or otherwise that all or a majority or any of the board of directors and officers of Warner Brothers Pictures, Inc., wrongfully participated in the acts in the complaint complained of, nor was said board of directors dominated or controlled by Harry M. Warner, Jack L. Warner, Albert Warner, Milton Sperling or anyone or more of them. It is not true that if demand had been made upon the Warner Brothers Pictures, Inc., that those to whom such application would be made to institute such suit would have been disqualified from faithfully doing their duty as directors and officers of said corporation, because of any matters or facts set forth in said complaint, or otherwise, that no demand was made on the directors of said Warner Brothers Pictures, Inc., to institute this action and that such demand would have been futile, nor was any demand addressed to the stockholders of said corporation that the stockholders of the said corporation were not at the time of the execution of the contract complained of, or at any time, or at all, under the domination or control of the three brothers, Warner. Nor was said corporation at any time herein referred to in hands or under control, antagonistic to the financial interests of said corporation and its stockholders." And the court --
Speaker: Of course, those findings are significant only if domination is a requirement.
Eugene D. Williams: That's correct.
Speaker: Because the Court -- if domination is not a requirement, the Court expressly found that a demand would have been futile --
Eugene D. Williams: Yes.
Speaker: -- and therefore, the absence of a demand would not officiate the jurisdiction?
Eugene D. Williams: That's correct, Your Honor.
Speaker: So that really, the findings beg the question as far as the problem we got here is concerned.
Eugene D. Williams: Well, I don't know that they begged the question because the problem we have here may turn on the question of domination.
Speaker: Well, if -- of course, if domination is a prerequisite than the findings, I would suppose you can't get over those.
Eugene D. Williams: Yes, yes. Well, of course as I can --
Speaker: Domination is not a requirement. This finding is beside the point for this particular purpose.
Eugene D. Williams: That's correct, Your Honor.
Speaker: Yes.
Eugene D. Williams: Now, in connection with this matter of the demand would have been futile. Counsel has not given Your Honors the complete picture on that. The record shows, and I believe that -- it's at record page 588, the so-called admissions in connection with the futility of the findings and I think that the examination of the record is important because the record is what we're interested in. It appears at pages 587 and 586 in which the Court inquired of May, I should assume unless there is some contention expressly made to the contrary that this corporation would never have brought this suit. Is there any contention to the contrary? And I say, we don't make such a contention. Then, the Court -- I skip -- And the Court goes down to say, “So far as demand and refusal are concerned, I take it that the defendant in effect stipulates in such a -- that a demand would have been futile." Mr. Williams, "but not for the reasons alleged in the complaint." The Court, "No, but for the reasons contended by the defendant.” Mr. Williams, “Certainly, not for the reason that the defendants ever contended that the contract was fraudulent.” The Court, "As I understand, defendant's position and I can be corrected if I am in error, the defendant's position is that this was an advantageous arrangement for Warner -- for the Warner Corporation. And the directors would have -- have upheld it at any time against any attack by any person including any group of stockholders." Mr. Levy, “That is the position of both the individual defendants, Warner Brothers and the Corporation. All of them contend likewise.” Mr. Williams, “The individual defendants, Warner Brothers, are not involved in that issue. It is the corporation that is involved in that issue.” The Court, “And for those reasons, no matter what demand the plaintiff stockholder had made on the directors, they would never have brought this suit, is that a fair statement of it?” Mr. Williams, “Yes, that is a fair statement but not for the reasons alleged in the complaint that there was domination but for the reason and in the opinion of the responsible officers and directors of the corporation, this was a good contract.” The Court, “By good, you mean advantageous to the corporation?” Mr. Williams, “Advantageous to the Warner Corporation, yes.” Now, that is the so-called admission which was made and we regard it as a statement, rather than an admission, a statement of our position. Now, the findings which I have taken the liberty of reading to this Court were considered and the evidence supporting those findings was considered by the Court of Appeals for the Ninth Circuit and the Court of Appeals found no reason to disturb the findings after the examination of the record. And so, stated at -- at page 5 of the Supplement Appendix 1 attached to the petition in this case where the opinion of the Court of Appeals is set forth in full. I, therefore, take it that in this case, we are justified in taking the position that the questions which will be decided by this Court, the basic questions of law, will be decided on the assumption that the findings of this Court determined of -- of the lower court, determined the facts, the Court will not in view of the record in this case and the type and character of the petition for the writ of certiorari and the -- that was filed will not go back of the Court's findings, the Court of Appeals having found that the findings were supported by the evidence. If I may narrow that, why I am -- I'm very seriously narrow because there has not been brought before this Court by any means, the -- the full evidence in the case, only a fragmentary portion of the evidence. Because we have assumed that in view of the opinion of the Court of Appeals that there would be no desire on the part of this Court to dig into the specific facts underlying the findings and -- and I am proceeding in my argument upon that theory. Now, counsel has said that he does not question the sufficiency of the evidence to support the findings. And on the other hand, he -- he -- at another point, he said in response to a question by one of the associate justices that he didn't think the evidence did support the findings and then at another point, he -- he went back to his original suggestion. What he has attempted to do, I believe, is without making an -- a direct attack upon the sufficiency of the evidence to support the findings, he has taken certain fragmentary and disconnected evidentiary facts and talked about them without giving the full story in any particular. And obviously, I cannot and do not believe I should. At this time, endeavor can beyond the Court's findings and try to engage in discussion as to what the evidence has been omitted in his statement or what other evidence was there. Now, we believe that the rule of law which has been established by this Court is as follows, we believe that this Court has stated that in a stockholder's derivative suit, the corporation will ordinarily and normally be aligned as a party plaintiff because it is the entity for whose benefit the action is being brought and the pursuit or entity which will recover the judgment if any. It is the real party in address. But, that there is an exception to that rule and that exception is a limited and special exception. When the corporation is a captive corporation, when it is in hands antagonistic to its financial analysts, when it is unable by reason of that captivity and being in such antagonistic hands to properly represent itself, there is an exception and in that case, it will be aligned as a party defendant. We believe that is the true meaning of Doctor versus Harrington. We believe that is the true meaning of Venner against the Great Northern and we respectfully submit to the Court that it is very tertiary and very well stated by this Court in the case of Koster against Lumbermens Mutual in which the Court epitomized the rule, as I understand it as follows. The cause of action which such a plaintiff, it is a stockholder, brings before the Court is not his own but the corporations. If it's the real party in interest and he is allowed to act in protection of its interests, somewhat as a next friend might do for an individual, because it is disabled from protecting itself, if however, such a case as this were treated in -- as other actions, the federal court would realign the parties for jurisdictional purposes according to their real interest. In this case, which his typical of many, this would put Lumbermens on the plaintiff's side. Illinois Corporations would then appear among plaintiffs and among defendants and jurisdiction would be ousted.
Speaker: What would be the consequence of that rule in a situation where the stockholder is suing, not the directors but a third party? And where in that situation you would have no antagonism, no personal interest between the -- antagonistic interest between the interest of the directors and the corporation?
Eugene D. Williams: The corporation would automatically be -- be aligned as a plaintiff. I am now coming to the very --
Speaker: But then if we let (Voice Overlap) as aligned as a plaintiff?
Eugene D. Williams: As a plaintiff. I am now coming to the very gist of the point when I read the last sentence of the quotation I was about -- that I was making. "But jurisdiction is saved in this class of cases by a special dispensation because the corporation is in antagonistic hands." In other words, I believe the rule established by these cases, by this Court, is that the corporation will always be aligned as a plaintiff unless it is in antagonistic hands --
Hugo L. Black: What --
Eugene D. Williams: -- or is a captive corporation.
Hugo L. Black: What would have to be proven on -- according to your viewpoint in order to make it antagonistic?
Eugene D. Williams: Would have to be proved?
Hugo L. Black: In this case.
Eugene D. Williams: In this case, it would have to be proved that the directors or the majority of the directors were antagonistic to the interest of the corporation. That is between the corporation and the alleged wrong doers. They were willing to serve the interest of the wrong doers rather than the interest of the corporation.
Hugo L. Black: In other words, they'd have to prove facts of what they allege as the ground for relief, would they?
Eugene D. Williams: In -- in our case --
Hugo L. Black: They would have --
Eugene D. Williams: -- in this particular case --
Hugo L. Black: They would have to prove that what the allege here is a basis for the recovery, setting aside to this contract, that these directors illegally, wrongfully in that state to pay -- conspired to do that.
Eugene D. Williams: That's right, Your Honor.
Hugo L. Black: So that you -- from your standpoint, they have no jurisdiction unless they can recover on the merits.
Eugene D. Williams: In this particular case, yes.
Hugo L. Black: In this particular case?
Eugene D. Williams: In this particular case. Well, I think --
Hugo L. Black: I -- I -- has that -- has that been tried out? Have they -- has it issued and tried out here?
Eugene D. Williams: Yes.
Hugo L. Black: Did the Court find that they did not illegally or wrongfully and in bad faith conspired?
Eugene D. Williams: Yes.
Hugo L. Black: That's what it decided?
Eugene D. Williams: I just got through reading the finding.
Hugo L. Black: Your argument -- your -- your argument here that -- that they have tested out the real basic issue in this basis?
Eugene D. Williams: Yes. I say --
Hugo L. Black: It shows the Court didn't have jurisdiction.
Eugene D. Williams: That's correct. I say in this particular case, Your Honor, the issue upon which the plaintiff sets his cause of action, puts his cause of action is coextensive with the issue, which the Court tries on the question of jurisdiction.
Hugo L. Black: That did -- they have decided here, put in our claim that they'd put in all the evidence that they had to show --
Eugene D. Williams: Yes, Your Honor.
Hugo L. Black: -- that they acted illegally and so forth. And then, can we really consider that as a moral --
Eugene D. Williams: Yes. I will say this.
Hugo L. Black: -- trial on the merits of the controversy?
Eugene D. Williams: I will say this, if Your Honors please, that at page 588 of the record or 587 of the record, Mr. Levy, who represented the plaintiff in the case said that he -- "I have no further evidence to offer." Now we had -- and that was on the issue of domination, which involved the very gist of the whole case.
Hugo L. Black: Was it on the issue of whether they had acted illegally and fraudulently and so forth?
Eugene D. Williams: Naturally, because the issue of domination inevitably involved the whole question or the entire conduct with reference to this transaction.
Hugo L. Black: I thought, maybe I was wrong. Did I understand Mr. Levy to say that this issue have not been cited out and he had not been given a chance to try it out.
Eugene D. Williams: What Mr. Levy said, if I understood him, and what I will say to is this. That the Court limited the taking of evidence to the question, the two questions of jurisdiction and statute of limitations which involve the same basic evidentiary matter. In this particular case, because of the allegations of the complaint, that evidence also necessarily included the very facts upon which the claim was based. And while we have not ever gotten to the merits of the case, we had put on all of the evidence, practically, all evidence on either side could have had on the merits because they were --
Tom C. Clark: You really did try the merits though didn't you under your contention?
Eugene D. Williams: No. No, we --
Hugo L. Black: Although you called it the jurisdiction, you --
Eugene D. Williams: Yes, we really --
Hugo L. Black: -- reacted at the issue.
Eugene D. Williams: Yes, we really tried that issue.
Hugo L. Black: The merit?
Eugene D. Williams: Yes.
Felix Frankfurter: Are you suggesting that in this kind of a case, if a -- if a stockholder brings suit and on behalf of the corporation against a third person on the -- because the directors will not bring suit because they might have thought -- on a claim that he alleges the corporation pass. And he further alleges that he won't bring suit, that directors won't bring suit because the debtor, the potential debtor is a great friend of the majority of the directors and they don't want to bring suit against him which might put him in a bad public life. Is it your suggestion that on the question of jurisdiction being raised i.e. they're preventing the corporation from suing, the corporation would have to be a necessary party on one side or the other in such a suit, wouldn't it?
Eugene D. Williams: Certainly.
Felix Frankfurter: And on the question, whether it should be on the plaintiff's side or the defendant's side, is it your suggestion that the merits of the claim that is pressed must also be decided before you can decide the jurisdictional question as to what the real conflict is between the parties?
Eugene D. Williams: No, Your Honor. I do not say that.
Felix Frankfurter: Of course.
Eugene D. Williams: I say that in this particular case.
Felix Frankfurter: But I'm not saying about this case.
Eugene D. Williams: Yes -- no, I don't say that.
Felix Frankfurter: (Voice Overlap) --
Eugene D. Williams: I say that the question of whether the real merits will be tried by the Court in this preliminary investigation and to its own jurisdiction must depend on the facts of each case as to whether the merits are or are not in disagreeably mixed-up with the -- with other questions.
Felix Frankfurter: I suggest that the word "antagonistic" isn't that illuminating description. The word "disabled" used in the cost-cutting case is.
Eugene D. Williams: I think -- yes.
Felix Frankfurter: That means something.
Eugene D. Williams: I think Your Honor is correct.
Felix Frankfurter: Antagonistic gets you into other --
Eugene D. Williams: [Laughs]
Felix Frankfurter: -- to a totally different area.
Eugene D. Williams: I think Your Honor is correct and -- and I think the word "disabled" is right and I -- and I was struck as -- with the appropriateness of the expression “captive corporation” which was used by some of the justices.
Felix Frankfurter: Because if it isn't disabled, then the corporation must be the plaintiff?
Eugene D. Williams: Yes. Now, if Your Honor please, that puts in --
Earl Warren: Mr. Williams, before you get to --
Eugene D. Williams: Yes.
Earl Warren: Before you -- we get off of this subject, I -- I noticed in that sentence you read of Mr. Levy's on page 587, I have no further evidence to offer. The record shows also that he said, "Under those circumstances."
Eugene D. Williams: That's -- that's when I had stated that --
Earl Warren: Now -- now preceding -- preceding that, is what he calls your admission and what you call your statement of your position.
Eugene D. Williams: That's correct.
Earl Warren: But preceding that was a dialogue between the Court and Mr. Levy in which the Court said, "Is there any further evidence to be offered on the issues as to jurisdiction limitation or latches?" And Mr. Levy said, "May it please the Court, I have been thinking over very carefully, some of the questions, Your Honor, propounded to me yesterday in our discussion with respect to the meaning of hostility, antagonism and so forth. I was wondering whether a cross-examination of the principal characters in this drama would shed any light on that particular subject. In the present state of the record Your Honor has before you the depositions of certain people." And then he goes on to say, "I have not cross-examined any of these people. It may be that a cross-examination of them will yield further light on the question. Namely, is there hostility? Is there antagonism between the corporation as composed of the individuals who influenced its day-to-day conduct and responsible for its basic policy and so -- and so forth?" And then comes what he calls your admission. And then he says, "I have no further evidence to offer under those circumstances, but that would” -- would that not indicate that there was not a full hearing on the question of the interest of these people but that when he said, "I have no further evidence to offer" that it was in relation to a particular situation?
Eugene D. Williams: No. If Your Honor please, it cannot possibly indicate that. In this case, the testimony of every director and of the number of officers who were not directors of Warner Brothers and other individuals was presented to the District Court. It was presented either by examination in open court or by the reading of their depositions. In the case of the depositions, the -- the officers and directors had been cross-examined at length by the counsel who appeared at the taping of the depositions. Consequently, the evidence was before the Court and in extensile before the Court. Two of the directors had testified for days. The depositions of all the other directors had been offered in evidence. A hundred in our exhibits have been received in evidence. The -- the testimony of numerable individuals had been received in evidence. The testimony of the plaintiffs by way of deposition had been received in evidence.
Felix Frankfurter: Why -- why was the evidence as to -- of some directors by way of deposition --
Eugene D. Williams: Because they were residence of New York and -- and Pennsylvania and depositions were taken for that reason. And we're taking some time in advance to the trial.
Earl Warren: And its appropriate order, I suppose that's an order --
Eugene D. Williams: They were done by stipulation, I think.
Felix Frankfurter: By stipulation.
Eugene D. Williams: And now, Mr. Levy was thinking out loud and decided that he didn't want to ask anymore questions. He -- if he did want to ask any, all he had to do was say so. But he decided at that point as he said that under those circumstances I have no further evidence to offer. There was other evidence that I might have offered but I -- I felt that at that time, the entire factual picture wasn't before the Court. And so, I say that -- if Your Honors please, that there was as full and complete, a hearing of the facts upon which these findings are placed as -- as they could have well have been. And --
Hugo L. Black: May I -- may I ask you a question?
Eugene D. Williams: Yes, sir.
Hugo L. Black: I'd like to have your viewpoint.
Eugene D. Williams: Yes.
Hugo L. Black: We can discuss it when it gets --
Eugene D. Williams: Yes.
Hugo L. Black: -- into full rise. I'd like to have your viewpoint of it. I like to have your answer. What sort of proof of the allegation that it's made as to the invalidity of this contract and showing that the contract has been made by these -- to this company with these three men on the board of directors, a son-in-law, one of the Warner, under the circumstances they alleged. What sort of proof of those facts would you say would have been sufficient to hold that the -- that the Warner Brothers should be aligned as a defendant rather than a plaintiff?
Eugene D. Williams: You mean the Warner Corporations?
Hugo L. Black: That's right.
Eugene D. Williams: Yes.
Hugo L. Black: I'd like to get your judgment to that.
Eugene D. Williams: I think -- I think, if Your Honor please, in this particular case in view of the allegations of the complaint in this case that there is very little shot of that that -- that could have satisfied that point. In other words, this case is based upon the allegation that the brothers, Warner, two of the brothers Warner, conceived the idea of enriching the son-in-law of one of them at the expense of the corporation. And that they imposed this contract upon the corporation by virtue of the fact that they dominated and controlled the board of directors. That is the essence of the charge. Now, the essence of the charge then becomes the question -- the essence of the issue is was the board of directors dominated? In this particular case, the board of directors which approved the contract was the same board of directors which was on the -- was in -- man of the corporation with one exception. At this time, the suit was filed and that all of the intervening time.
Felix Frankfurter: How many directors were?
Eugene D. Williams: Eleven. I might say that the record shows that Mr. Harry Warner and Jack Warner did not participate in the board meeting which approved this contract.
Felix Frankfurter: What was their holding --
Eugene D. Williams: They held --
Felix Frankfurter: -- their holding to the total stock?
Eugene D. Williams: They held with their brother, Albert, a total of 15% of the stock.And the Court found that they did not have control of the corporation or the directors. Now, that brings us to a consideration of what I consider and I -- I may be wrong about it but I consider a very important element in this case. And of course, under the rule of Erie against Tompkins, this being a diversity case upon the merits. The -- the federal court will apply the law of the firm, the law of the State. And we have cited cases in our brief. On a point, there is one rather recent case in California that is particularly significant that involved the Douglas Aircraft Corporation, the case of Finley versus Garrett, in which the California rule in reference to this matter was laid down. There was a case where there was a -- a rather a very extensive claim alleged by a stockholder to subsist in favor of the corporation based upon part in the overreaching of the corporation, interlocking the right place and things of that sort and the man was made on the directors of -- of the Douglas Aircraft Corporation that they sue. And the matter rose on demurrer to the complaint, and the Court held. Now, here's the case where the directors in charge of the corporation at that time, the majority of the directors in charge of the corporation at the time that suit was demanded and refused are not shown by the allegations of the complaint who have been dominated by the alleged wrongdoers. The corporation is not shown to have any disability to protect itself or to be captive. And under those circumstances, the California rule is applied as follows, that a -- that in the absence of fraud, bad faith, or domination, the directors of a corporation have the right to decide the questions involved in the administration of that corporation including specifically the question of whether to file a particular lawsuit.
Eugene D. Williams: Mr. Williams, well I'm struggling to what you've just said that the causes and the diversity case that the federal court is controlled by the state law as to what constitutes control under the questions that arise in -- in state litigation.
Felix Frankfurter: It's not --
Felix Frankfurter: In other words, just -- suppose the California Supreme Court ruled as a matter of law that 15% of stockholding isn't enough to give you control. Would that determine the question of realigning the party?
Eugene D. Williams: No, sir. I don't say --
Felix Frankfurter: That's a federal question.
Eugene D. Williams: That's a federal question.
Felix Frankfurter: That's a question of -- in my point of view, essentially a question of fact to be determined by the District Court.
Eugene D. Williams: Absolutely, Your Honor.
Felix Frankfurter: Under California or any other state law has nothing to do with it.
Eugene D. Williams: Absolutely. The -- the state law has no -- the State of California has no authority to limit or control the federal court in determining its own jurisdiction.
Felix Frankfurter: California law comes into play after the -- if diversity is established --
Eugene D. Williams: Yes.
Felix Frankfurter: -- and you go to the merits of a suit.
Eugene D. Williams: Yes. The point I'm trying to make is this, not that this Court is bound by California law because that is the last thing I would suggest. It is this, that this rule, in the application of this rule in this case is in conformity with the substantive rule involving California.
Felix Frankfurter: Well, why do you have to so? It's simply confusing if I may --
Eugene D. Williams: Well, it may be. It may be and I -- I have given it because I thought it has some reference to the subject matter. And if I am wrong, well, I have wasted my time. Now, I know that there are many cases and they've been discussed in the brief and I don't intend to discuss them. There are many cases particularly in the -- in the various Courts of Appeal and in the District Courts where there is -- apparent to me, a great deal of confusion of thought on the question of -- of what is the true rule. But we again state and -- and this is the very gist of my argument that so far as the law now stands in the United States, it has been determined by the Supreme Court of the United States starting here with some of the earlier cases or removal cases in the Ketchum against Pacific. It has been the -- the basic proposition that parties will arraign. It'd be aligned in accordance with their real interest was very fully covered in the Indianapolis against Chase National Bank. And then, we get down to the specific cases and I -- I assert to this Court, the Doctor against Harrington, Venner against the Great Northern and Koster against the Lumbermens are the cases which determined the law in -- in the United States at this time. And if -- if that is not the law, if it is not the law that in all cases of stockholders to remedy suits, the corporation will be aligned as a plaintiff because it is the entity for whose benefit the action is being brought, except when it is under disability to defend itself.
Harold Burton: It's not enough to show that the arrangement that the board of directors that are favor of it be detrimental to the corporation. It will be damaging to it, in the opinion of the stockholder as --
Eugene D. Williams: No, no, if it's a difference of opinion in the absence of fraud or bad faith or other disability, if it's a mere difference of opinion, the board of directors have a right to do -- to have a -- have good judgment or a bad judgment in reference to that.
Harold Burton: In fact, it's their own mistake in having their own corporation.
Eugene D. Williams: Yes.
Speaker: Well, why doesn't that go to the merits instead of jurisdiction?
Eugene D. Williams: Well, it goes to the merits and to jurisdiction.
Speaker: I don't see where --
Eugene D. Williams: I -- I can't -- I can't see in this case any point of jurisdiction, any question of fact in connection with jurisdiction that in this particular case, doesn't also go to the merits. It just happens because --
Felix Frankfurter: Well, I don't know of this particular case, if a stockholder says that X owns a corporation, $100,000.
Eugene D. Williams: Yes.
Felix Frankfurter: And the stockholder writes to the corporation, “Will you please sue X for $100,000?”
Eugene D. Williams: Yes.
Felix Frankfurter: And the -- the secretary of the corporation or their lawyer writes to the stockholder. “He ought to have the 47th receipt and I'm ought -- I'm instructed to inform you the corporation has decided not to bring suit against X.” Suppose you have that, nothing more.
Eugene D. Williams: Yes, nothing more.
Felix Frankfurter: What would you do in that case?
Eugene D. Williams: I say that if you have not that and nothing more, the corporation should be aligned as a plaintiff.
Felix Frankfurter: And that has nothing to do whether indeed X owes a $100,000 to the corporation.
Eugene D. Williams: No. As a matter of fact, X might owe $100,000.
Felix Frankfurter: Or he might not.
Eugene D. Williams: Yes.
Felix Frankfurter: And that has nothing to do where you put the corporation in that litigation.
Eugene D. Williams: In that litigation in -- in our judgment under these authorities. Now, I -- I --
Speaker: What do -- what do you do with Chicago against Mills?
Eugene D. Williams: I think Chicago against Mills is very readily distinguishable because in Chicago against Mills, it was an ultra vires case in which it was claimed that the act of the corporation was ultra vires. In all of those ultra vires cases, the stockholder has a cause of action in his own right in which he asked for a judgment against the corporation. To the effect of this shall be enjoined from committing the ultra vires act. So that the corporation is of necessity joined as a party defendant because some -- some relief is asked for against the corporation which is not true in the derivative case.
Felix Frankfurter: That's the way the income tax case was -- and later on the federal law and the corporation is asked. If the stockholder says that you mustn't pay this tax, not that I'm enforcing some claim that you have.
Eugene D. Williams: Yes.
Felix Frankfurter: But if the claim that I had against you not will be guilty of devastated of the State.
Eugene D. Williams: That's correct. And in those cases in my judgment are completely distinguishable from this case. Now I --
Hugo L. Black: So, what is the ground here basically, a fraud charged against it, the -- to make -- be made the basis for setting aside this contract between Warner Brothers and the United?
Eugene D. Williams: It is a license that Harry Warner and Jack Warner device a scheme of causing the corporation to enter into a contract with the son-in-law of Harry Warner by which the son-in-law would be at risk in the contract and the corporation would be most of its money. And -- and that they forced the board of directors who may dominated and controlled to approve that contract.
Hugo L. Black: And what's the difference between that issue and the issue that you say would require to be proven to show that the -- the party should be realized?
Eugene D. Williams: No difference.
Hugo L. Black: None?
Eugene D. Williams: I -- I think that -- I think in this case, the question of jurisdiction, the question of the right of the stockholder to bring any action at all as -- as set forth in Rule 23 (b) and the merits of the case are quite extensive. Now, I noticed from the -- it's last year that I have used the time which I allow it to myself because Mr. Schwab who speaks for other defendants want some time. I thank Your Honors for your help, thank you.
Earl Warren: Mr. Schwab.
Oliver B. Schwab: Mr. Chief Justice and members of the Court. Perhaps to continue on the same line for a moment and bring into a little clearer focus what happened in this trial, I don't quite agree that in every instance, the issue of the merits is relevant to the issue of control or antagonism or to the issue of disability of the corporation. It so happened that in the instance given by Mr. Justice Frankfurter, it may not be relevant for the Court to inquire whether or not the promissory note was valid, whether or not the corporation owed it. However, in this case, Judge Mathes, in an effort to lean over backwards and to accept every possible inquiry into the facts relevant to jurisdiction, listened to evidence not only as to the freedom of action of these directors, but also looked at the contract. Now, it is true and this is partially an answer to your inquiry, Mr. Justice Black. It is true that the contract might be circumstantial evidence that the directors were dominated or acted fraudulently. That is the relevance, only, the only relevance of the contract in this situation. So, in the case of Mr. Justice Frankfurter's inquiry, it is possible that if a plaintiff comes in and says, “The corporation refuses to sue on $100,000 promissory note.” The evidence may be as follows, the directors may take the stand and say, “We don't think it's collectible.” They may say, “We don't think we have a good cause of action.” Or they may say, “We have appraised this and in our opinion, the corporation would waste its money suing.” Now whether or not -- whether or not the promissory note is valid would only be circumstantial evidence to show that the directors were or were not acting fraudulently. That is all. Now, in this case, Judge Mathes need not to have inquire into this contract. The fact of the matter is that he opened the door that we had an unlimited trial, that this case went 15 days or more, that this case involved a hundred and some exhibits that this contract was shown and the testimony of the executive vice president to be a contract from which Warner Brothers would derived over a $11 million in profits, that this contract were shown not to be an unusual transaction, but one of steady current of business transaction.
Hugo L. Black: You're saying that under the evidence, it was stipulated not enough to prove the allegations they made of course. But suppose the allegations had been proven, just as they made them or the illegality and so forth, would that have the matter it require to realign with the party?
Oliver B. Schwab: If the evidence had shown that these directors were acting fraudulently and under domination, then this corporation would not have been acting in its best interest.
Hugo L. Black: Well, if they had shown exactly what the alleged in the complaint as a ground to set it aside, would that have required the realignment of them as a party defendant?
Oliver B. Schwab: I would say that it would, but this Court found after the trial court found and the Circuit Court examined the record and found that there was no fraud and that there was no domination. And that therefore, this corporation, Warner Brothers, was acting in its own best interest even though it was in disagreement with the plaintiff over whether this suit should be brought.
Harold Burton: And even though this record might have a dual interest, that's not enough.
Oliver B. Schwab: Well, it might be enough, Your Honor. But in this case, Judge Mathes found after a protracted trial that it was not enough. He listened to the evidence. Mr. Levy had an unlimited opportunity. As a matter of fact, December 15th of this year, we will be nine years in this litigation. And may I point out that we didn't file a single delaying tactic. We've didn't demur. We didn't do anything. As a matter of fact, we would like to come to trial whether it's before the federal court, the state court or even a justice of the peace. We feel our -- we feel we have the right with the matter.
Hugo L. Black: May I ask you some quote on that question?
Oliver B. Schwab: Yes, Your Honor.
Hugo L. Black: I understood you to say he had an unlimited opportunity.
Oliver B. Schwab: That is correct.
Hugo L. Black: He have that when the issues were limited if -- if the issue was really tried out on the basis of showing or giving him a chance to prove the fraud he alleged which was made of realignment. Why should it have been limited to the question of jurisdiction?
Oliver B. Schwab: Because, Your Honor, as is necessary and this Court has frequently said, “The federal court should examine the issue of jurisdiction.” And on the issue of --
Hugo L. Black: To choose being its in depth, he had the right to and yes, he had a right to offer up all evidence such in the merits of his claim and if --
Oliver B. Schwab: Well, may I say that the Court held that if Mr. Levy wanted to introduce the contract and examine whether it appeared fair, a circumstantial evidence. Now, I'm paraphrasing the meaning of the Court's position that here was evidence by the directors as to their conduct. Here was all kinds of evidence that they were fair and free. This is my epitomization of it. They were not acting under domination. They were not acting under fraud. They were fair and free. Now, Mr. Levy says, "That isn't enough. I want to show this contract. I want to show by implication or innuendo that something is wrong here that the Court hasn't seen." So, the Court said, “Introduce the contract.” And as a matter of fact, we introduced a dozen other contract of similar nature that Warner Brothers had entered into. This was no odd contract. This was a course of business and it so happened that this was a desirable course of business and this -- this endeavor to introduce nepotism under these cases, is to me beside the point. This is strictly a case of federal jurisdiction, and the Court held a fair trial on federal jurisdiction. And if anything, Mr. Justice Black, the Court went too far in my opinion in permitting everything into the record that could possibly touch upon the issue of domination or control or basically, disability.
William J. Brennan, Jr.: Well, Mr. Schwab, if the Court had arrived at the opposite conclusion and had found that the corporation should have been realigned as a party defendant, do I understand from what you and Mr. Williams have said that on this record, automatically then, there would have been a judgment on the merits for the plaintiff?
Oliver B. Schwab: No, sir. Then, the Court would have been governed under Erie versus Tompkins by the rule of California. And then, Mr. Levy might have decided he wanted 10 more days of evidence. I don't know. He had a free hand here and incidentally --
William J. Brennan, Jr.: Well, then -- then, that's now to tell us then that there has not been a complete trial on merits.
Oliver B. Schwab: There has not been a complete trial on the merits. What I've said is there has been a complete and unlimited trial on issue of jurisdiction. And that issue --
William J. Brennan, Jr.: Well, I thought Mr. Williams told us earlier that the evidence was actually that would which would constitute a complete (Voice Overlap) --
Oliver B. Schwab: Well, what Mr. Williams has said is what I started out to say, that the evidence may apply to both issues. In other words, under state law in California as was said here yesterday, the substantive law may be that if the directors act honestly, if they are fair and free, that's the end of it. That's a matter of state substantive law, but it may also be a matter relevant to Doctor and Harrington. Now, what I am saying is that this Court gave the plaintiff unlimited time to prove anything he wanted, directors circumstantial on the issue of whether or not these directors were fair and free. And when he have no more to say, and incidentally, while I was going to -- to -- with respect to Mr. Levy's remark that I have no further evidence to offer under those circumstances, that related to Mr. William's statement. In other words, Mr. Levy said, "Well, maybe, I want to examine. Maybe, I thought of whether I should examine some of the directors." Incidentally, he had any period of time to do that. The depositions were taken. He could have had them in Court. This was up to his freewill. Now, the last day after 15 days of trial and he wasn't cut off, this Court I think would have gone on for 10 more days. He said, "Well, maybe I should examine." Then, Mr. William said, "Look, it is our position that the corporation considers this a fair contract, and therefore, where the corporation wouldn't have sued because it considered it a fair and good contract." Then, Mr. Levy said, "Well, under those circumstances, that is all." In other words, he had his full opportunity to try this issue of jurisdiction and to attempt to show under Doctor versus Harrington that the corporation was in antagonistic hand and after that trial, he did. Now, -- and that, after that trial, the Court held that he had not proved that the corporation was disabled and therefore the Court lack federal jurisdiction. I want to add this by way of illuminating background to show how clearly this is a case strictly of federal jurisdiction. This controversy started by suit in New York in 1948. These are matters of judicial notice. Immediately after that, there were piggyback bases, almost Chinese copies. There were 19 cases filed in New York. There were nine or ten of them in the state court, nine in the Federal Court. It was because of the bond rule and the case of Cohen versus Beneficial Loan that the plaintiff's attorneys in New York forwarded the cases to California and there were two, or three, or four or five, more. Now, some of the state courses in -- courts in New York are -- the cases are still pending. This is no question whether plaintiff doesn't have a form. He's not barred by the statute of limitations. He is trying to elect the federal court. He is trying to circumvent the rule of Doctor versus Harrington. The only issue here is that whether he has or hasn't the cause of action. We think he has it and we think that under California law, he'd be held not to have under the substantive law, but the fact to the matter is that the federal jurisdiction in this case has not been proven. I -- I had some other things to say on this but I'm afraid I -- I have ran out. Thank you.
Earl Warren: Mr. Levy.
Herman H. Levy: Mr. Justice Black asked the question whether there had been a complete trial on the merits. May I quote in this part? I refer the Court to page 572, first of the record in which I say, "I am just wondering, Your Honor, the reason why -- the reason why I say there maybe some occasion is this. We are trying, as I understand, limited issues here now and this applies to both this witness and the witness, Mr. Friedman who preceded him and so forth." And the Court says, "Mr. Levy, you may need them tomorrow," meaning, the witnesses that we were talking about. “I will ask them to remain until tomorrow. I hope we can reach a conclusion of the evidence tomorrow on this matter.” Mr. Levy, “On the issues that we are trying now, Your Honor? The Court, "On the issues, yes. On the issue as to jurisdiction and the issue as to the statute of limitations.” Now, on page 583 of the record, the Court says, "Do both sides rest on the issues as to jurisdiction latches or limitation?" Mr. Williams, "Yes, Your Honor." Mr. Levy, "Yes, Your Honor." The Court, "If we take up the case further on the merits, it will be some time -- it would be some time in July, the last half of July or in the Fall." Now, if that isn't in itself sufficient, we go to page 586 --
Earl Warren: What was that other page, 583 did --
Herman H. Levy: 583, Your Honor.
Earl Warren: 583.
Felix Frankfurter: Is it your view, Mr. Levy that when a Court in a -- in this kind of a diversity case that's confronted with the problem appropriately raised as to the side on which the corporation whose claim is being pressed by a stockholder? When the District Court is confronted with that question, must we go to the merits of the corporate claim which the stockholder is seeking to enforce?
Herman H. Levy: No, Your Honor, he need not.
Felix Frankfurter: Then what is the point of what you're now stating?
Herman H. Levy: All that he need do is this. The Court -- Mr. Chief Justice, wait, laid down the rule way back in Pacific Railroad against Ketchum that when a question of jurisdiction arises at the threshold, then it should arise right at the threshold. The Court will look into the matter and determine what kind of a case is this. Let's see what this is about and the next thing that he must do --
Felix Frankfurter: (Voice Overlap) merely as to pursue that the Court has to adjudicate --
Herman H. Levy: No.
Felix Frankfurter: -- whether or not there is a claim?
Herman H. Levy: No, Your Honor.
Felix Frankfurter: That's what I can -- that's what to me, means the term -- the merits mean.
Herman H. Levy: That's right. In other words, the Court does not adjudicate at that point whether he has the power to hear and determine as a federal court what this case is all about and to decide either in the plaintiff -- for the plaintiff or for the defendant. All he has called upon to do under Chief Justice Waite's rule was this. Let me see what this case is about and then let me see who belongs on one side and who belongs on the other side. Who says this and who says that. Now, according to your own -- to Your Honor's own rule laid down in Indianapolis case. You said that in that case that Chase and in the -- in Indianapolis were partners in litigation. Now, the facts in this case even under these findings show that these two people -- that is the -- the Warner Brothers, the individual defendants and the corporation here were partners in litigation.
Felix Frankfurter: But that has nothing to do with adjudicating the question whether ultimately --
Herman H. Levy: No, sir.
Felix Frankfurter: -- these defendants were fraudulent.
Herman H. Levy: No, sir.
Felix Frankfurter: All right.
Herman H. Levy: They had nothing to do with that at all.
Harold Burton: If for example upheld there is no jurisdiction, you could go ahead and practice status out of the state court?
Herman H. Levy: Yes, sir. And the Court so held in this case. Whatever we found here is not on the merits and he -- he had it in his opinion.Of course, if the complainant in this case has to go to the state court, he'll certainly will -- and never practically won't prevail if the statute of limitation is going to be a -- become a bar to them.
Felix Frankfurter: But the fact that the statute of limitations might have run because you chose -- because a litigant chooses to go to the federal court, there's no reason for finding their federal jurisdiction.
Herman H. Levy: No, sir.
Felix Frankfurter: All right.
Herman H. Levy: Absolutely not.
Hugo L. Black: Now, let me ask you this question.
Herman H. Levy: Yes, Your Honor.
Hugo L. Black: Suppose your adversary is right on what he claimed has to be established in order to realign the target, how could you decide it in this case without deciding the merits of your action?
Herman H. Levy: He couldn't.
Hugo L. Black: What you are saying is that you do not have to try the merits.
Herman H. Levy: No, sir.
Hugo L. Black: So, you say that that can't be wrong.
Herman H. Levy: Yes, sir.
Hugo L. Black: And that your test is right and that under your test that the -- entitled for him to try the case.
Herman H. Levy: Yes, Your Honor. And I'll give Your Honor and an answer to Mr. Justice Brennan's question, the test -- Your Honor asked me that yesterday and the test has been very, very nicely and I believe adequately and justly stated by Judge Lanning in New Jersey in the case of Groel against the Electric Company. He said this. And may I read from the 21 of my brief? The Groel case suit problem -- this is my brief in the Court of Appeals, Your Honors. The Groel case suit problem was decided some 25 years after the removal cases. In that case, the complainant stopped although a citizen of New Jersey had instituted a derivative suit in the New Jersey Court of Chancery, the defendant's name with his corporation, a New Jersey Company and the Pennsylvania Corporation. The case had been removed from the state court to the federal District Court of New Jersey. Plaintiff stopped all the move to remand on the ground that both he --
Earl Warren: You may finish that short quotation.
Herman H. Levy: -- and the defendant, New Jersey Corporation were citizens of New Jersey. In our position to the motion, it was contended that since the stockholder was urging, not his, but to the corporation's cause of action which has been the contention throughout here, but that is controlling. The federal court should view the stockholder's corporation as a plaintiff and realign it with the complainant, thus bringing about diversity. The Court declines to do so and said on page 263, quote, "This contention has seem to necessitate before going to review of the authorities and Judge Lanning really made a review of the authorities." The rule deduced from them is that, in astute in equity instituted by a stockholder in his own name, but upon a right of action existing in his corporation, the stockholder's corporation will be aligned with the defendant's whenever the officers or persons controlling the corporation are shown to be opposed to the object sought by the complaining stockholder. And that when such opposition does not appear, the stockholder's corporation will be aligned with the complainant in the suit, and this case was cited with approval in Venner against the Great Northern.
Felix Frankfurter: You mean to say that if the rule that you're offering, that whenever a -- whenever a stockholder seeks to enforce a claim which runs to the corporation in his view and he asked the corporation to sue and the corporation said, "We're very sorry. We do not think it is desirable to sue. We do not think we can win in this case. Yours truly." That at once aligned him with the defendant?
Herman H. Levy: No, Your Honor. I do not. When we say what --
Felix Frankfurter: Well, I don't understand what -- the reading of that is opposed.
Herman H. Levy: May I explain it then, Your Honor?
Felix Frankfurter: Certainly.
Herman H. Levy: Judge Lanning meant this. He says when the corporation -- when the directorate of a corporation evinces and makes evident an attitude that is opposed not to the stockholder, because he wears a red tie for example, nothing personal about it. But when it is opposed to what he stands in Court and condense for, when the directorate of the corporation is opposed to that, then it -- the corporation, the -- this directorate is antagonistic to the -- to the -- to the stockholder's claim. And the corporation is in antagonistic hands because the point is this, that in this case, the directors were unanimous.
Felix Frankfurter: I'm not talking about this case. I want a proof.
Herman H. Levy: In any case.
Felix Frankfurter: Are there plaintiffs stockholders, right?So, there, in courteous letter and encloses a very strong opinion from his lawyer saying, "I've studied the authority and I think the corporation has a good cause of action." And that is sent to the secretary to whom service is sent of corporation X. And corporation X sends that on to its general counsel and the general counsel send back an opinion saying, "I think the opinion of my respected brother at the bar is -- is not in all that, but I think he has overlooked some recent tendency, the Supreme Court decisions. I think the chances of recovery are very remote. This will be a long going out litigation. It will cost a lot of money and incidentally arouse friction and I recommend that the corporation do not make that claim and bring proceeding -- does that on opposition?
Herman H. Levy: Does Your Honor's premise carry this -- carry this thought as well that the corporation virtually says, "You may have a point there.” This man -- this corporation may be entitled to get this money, but we think that even though it's entitled to get this money, we don't feel that it's advisable to go ahead and sue because you may not win. Now, I think that under those circumstances, Your Honor, the corporation should be aligned as a defendant for the reason that the directorate is enhanced that is in opposition or inimical to the objects of the stockholder's action which he prepared -- which he is prepared to bring. Now --
Felix Frankfurter: The corporation in other words isn't entitled to act in good faith on the advise of its counsel. It must take the advice or plaintiff's counsel --
Herman H. Levy: In one case, yes, and in one case not. Now, I'll tell, Your Honor, in which case, yes, and in which case, not. If the corporation has a claim, if the stockholder's claim is this, the corporation has a claim against the stranger, the case that you put, Your Honor, put to Mr. Schwab. In other words, the corporate -- the -- the stockholder says, “This corporate -- this stranger owes this corporation a $100,000.00.” And the directorate says, "Well, no." Or maybe -- well, maybe he does and maybe he doesn't. We don't think it's advisable to go ahead. I say that under those circumstances, the stockholder hasn't even got a case for this reason, for this reason because this is a -- a claim of the corporation against the stranger and the directorate can do what it pleases about. In other words, improvidence in such a situation makes no difference and doesn't give the stockholder the right to come into Court. But those cases are distinguishable clearly as Mr. Justice Douglas has pointed out in Pepper against Litton from the case in which a contract is involved between the corporation and its president or his wife or his son-in-law and the case of -- the wife was clearly stated by one of the vice chancellors in Breweries against Nixon in New Jersey. That is a different situation. In those cases, the business judgment rule must yield to the greater rule of undivided loyalty as Mr. Justice Douglas has pointed out in --
Felix Frankfurter: He's exercising a -- an exercising a business judgment by the corporation is proved disloyal, is that it?
Herman H. Levy: No, Your Honor. I don't say that. Now, that -- that would be --
Felix Frankfurter: What do you say then?
Herman H. Levy: I say that where a corporation is engaged in a deal with a son-in-law of the President, and that deal has been arranged by his father-in-law, the president of the company with him and a stockholder comes along and says, "This is a vehicle by which the (Inaudible) corporate money into the hands of the son-in-law." I say under those circumstances, the Court is not bound by the business judgment rule but all the decisions are to the effect that the -- a court of equity will scrutinize the contract carefully for the purpose of determining whether it was in its last analysis fair or unfair, irrespective of whether the board of directors thought it was fair, irrespective of whether they were honest men because even honest men may differ, may be capable of using -- thinking that something is fair which isn't because I'll give Your Honor the simple example. Suppose the board of directors is composed of men who are perfectly honest and perfectly fair, they believe that this president of a corporation should get a million dollars a year. Now, they say in our -- we are -- business judgment rule is exercised right then as to right now, and the stockholder comes along and says, "Oh, no. This is just ridiculous. This is unreasonable." Shall we say that under those circumstances, the stockholder is out, out in the state court or out in a Federal Court?
Felix Frankfurter: That isn't our question. You may be able to get a recovery because the corporation laws of a various state, very enormous, at least they did when I asked you about it which is a long time ago. They're very enormous, for instance whether -- whether a member of the board, whether a director can be a party to a contract of the corporation, whether he's entitled to vote, whether he can be in the room when they take a vote. All those things are questions of substantive law on which the States have their different policies on the basis of which you may or may not recover.
Herman H. Levy: Yes, sir.
Felix Frankfurter: That has nothing to do with the alignment of party --
Herman H. Levy: No, sir. It has not. And may I make one request, Mr. Chief Justice. This brief who served my opponent's brief, who served on me the day before I am trained for Washington, from California and I've had absolutely no opportunity of course to reply. May I file -- may I just file with the Court my brief in the Court -- in the Court of Appeals which contains the latest law of the State -- of the State of California on the question not the one cited by my opponent namely Finley against Gareth, but the later case unless Your Honors want to take it down, the case of Kennerson against Burbank 120 Cal.Ap.California Appeals 157 -- 170 in which the law of California is stated to be clearly the law as stated by Mr. Justice Douglas in Pepper against Litton are no different. May I --
Earl Warren: You may file it.
Herman H. Levy: -- please file it?
Earl Warren: Yes.
Herman H. Levy: Thank you, Your Honors.