Opinion ID: 1216412
Heading Depth: 1
Heading Rank: 5

Heading: Contracts with Interested Directors

Text: In Nicholson v. Kingery, 37 Wyo. 299, 261 P. 122 (1927), we reviewed a transaction in which a corporation sold its controlling interest in a bank to an individual who served as director of both institutions. The corporation took back notes from the transferred bank in consideration. We held that the interested director bore the burden of showing by clear and convincing evidence that the transaction was open, fair and honest:    [I]f upon a careful scrutiny of the record it appears to a court of equity that the director has been open, fair and honest in his dealings with the corporation, and has secured no advantage by his contract to the detriment of the corporation it will be upheld.    Since in this case the defendant directors offered no testimony to overcome the presumption of fraud imposed upon them by law from the fact that they were acting both for themselves and the [corporation], we need go no farther than to hold that when it is shown by competent evidence that a director of a corporation acted both for himself and for the corporation in purchasing the property of a corporation, that the burden of proof is cast upon him to show by clear, convincing evidence that the transaction was open, fair and honestly made and that he did not profit by such sale to the disadvantage of the corporation. 261 P. at 124. We reaffirmed this rule of law in Voss Oil Company v. Voss, Wyo., 367 P.2d 977, 979 (1962), where we held that interlocking directors who profited from a transaction to the disadvantage of the corporation were liable to the corporation in damages. The Supreme Court of the United States described this fiduciary obligation of corporate directors and majority stockholders in Pepper v. Litton, 308 U.S. 295, 306-307, 60 S.Ct. 238, 245, 84 L.Ed. 281 (1939):    Their dealings with the corporation are subjected to rigorous scrutiny and where any of their contracts or engagements with the corporation is challenged the burden is on the director or stockholder not only to prove the good faith of the transaction but also to show its inherent fairness from the viewpoint of the corporation and those interested therein. Geddes v. Anaconda Copper Mining Company, 254 U.S. 590, 599, 41 S.Ct. 209, 212, 65 L.Ed. 425. The essence of the test is whether or not under all the circumstances the transaction carries the earmarks of an arm's length bargain. If it does not, equity will set it aside. We do not believe that the legislature in enacting § 17-1-136.1(a), W.S. 1977, 1984 Cum.Supp., intended to relieve the defendant of the burden of proving fairness in cases such as the one before us. That section provides: (a) No contract or other transaction between a corporation and one (1) or more of its directors or any other corporation, firm, association or entity in which one (1) or more of its directors are directors or officers or are financially interested, shall be either void or voidable because of the relationship or interest or because the director or directors are present at the meeting of the board of directors or a committee thereof which authorizes, approves or ratifies the contract or transaction or because his or their votes are counted for the purpose, if: (i) The fact of the relationship or interest is disclosed or known to the board of directors or committee which authorizes, approves or ratifies the contract or transaction by a vote or consent sufficient for the purpose without counting the votes or consents of the interested directors; or (ii) The fact of the relationship or interest is disclosed or known to the shareholders entitled to vote and they authorize, approve or ratify the contract or transaction by vote or written consent; or (iii) The contract or transaction is fair and reasonable to the corporation. The defendant directors do not argue that the transactions at issue here are protected by § 17-1-136.1(a)(i) or (ii). Rather, their position seems to be that a showing of the defendant's interest in a corporate contract is insufficient to invalidate it and, therefore, the plaintiff must at least establish the unreasonableness of a challenged transaction. We decline to read § 17-1-136.1(a)(iii) as broadly as the defendants urge. The fiduciary obligation of a director is a fundamental component of the corporate structure. It is embodied in § 17-1-133(b), W.S. 1977, 1984 Cum.Supp., which imposes upon directors the affirmative duties of good faith, loyalty and care: (b) A director shall perform his duties as a director including his duties as a member of any committee of the board upon which he may serve, in good faith, in a manner he reasonably believes to be in the best interests of the corporation, and with such care as an ordinarily prudent person in a like position would use under similar circumstances.    The very nature of these fiduciary standards of conduct demands that a challenged director bear the burden of establishing that a contract under which he benefits also serves the best interests of the corporation. Pepper v. Litton, supra; Nicholson v. Kingery, supra. See also Fliegler v. Lawrence, Del., 361 A.2d 218 (1976). We hold, therefore, that under § 17-1-136.1(a)(iii) an interested director, unable to rely on subparts (i) or (ii), bears the burden of proving by clear and convincing evidence that a challenged transaction was fair and reasonable to the corporation. In Thomasi v. Koch, Wyo., 660 P.2d 806, 811 (1983), we reviewed our appellate duties when considering factual matters determined by the district court under the clear-and-convincing standard. We said:    [I]t is the district court, not this court, which must be satisfied that there was clear and convincing evidence sufficient to establish a [disputed fact]. Ward v. Waterman, 85 Cal. 488, 24 P. 930 (1890).    This court previously has adopted language to this effect: `   When the evidence is such that the mind readily reaches a satisfactory conclusion as to the existence or nonexistence of a fact in dispute, then the evidence is, of necessity, clear and satisfactory.' Continental Sheep Co. v. Woodhouse, 71 Wyo. 194, 202, 256 P.2d 97 (1953), quoting language found in Good Milking Mach. Co. v. Galloway, 168 Iowa 550, 150 N.W. 710, 712 (1915). We further had said that clear and convincing evidence is `that kind of proof which would persuade a trier of fact that the truth of the contention is highly probable.' MacGuire v. Harriscope Broadcasting Co., Wyo., 612 P.2d 830, 839 (1980). 660 P.2d at 811-812. The uncontradicted evidence at trial established that Birl Lynch and R.C. Lynch stood on both sides of the agreement to hire LMS to manage the corporation. While drawing $17,000 per month in management fees, LMS took for itself consulting jobs which otherwise would have gone to the corporation. LCS operated at a loss under this arrangement while the management company showed a profit. The only justification presented at trial for this agreement was that it provided advantages for cash flow and tax planning. The trial judge concluded that Birl Lynch and R.C. Lynch had failed to establish the fairness to the corporation of those management fees in excess of $9,000 per month. The evidence supports this factual finding of the trial court and we will not disturb it on appeal. Thomasi v. Koch, supra. The trial court also found that Birl Lynch and R.C. Lynch had not carried their burden of proof with respect to the conveyance of two city lots to themselves at a loss to the corporation of $10,000. The trial court was not required to accept the defendants' explanation that Patterson's refusal to guarantee a property-improvement loan necessitated the distress sale. We will sustain the trial court's conclusion, supported by the evidence, that the Lynches failed to prove the fairness of the conveyance by clear and convincing evidence. Thomasi v. Koch, supra.