Opinion ID: 359001
Heading Depth: 2
Heading Rank: 1

Heading: The $491,569 Corporate Judgment

Text: 43 Shortly before the October 1974 annual meeting, the individual defendants, sensing an upcoming proxy fight with the Belcher III faction, caused the corporation to expend $1,048,369 in corporate funds to purchase 6,378 shares of Belcher Oil Company stock at admittedly inflated prices of $164 and $165 per share. Defendants shrewdly timed the purchase so that they were able to vote these shares at the 1974 meeting. The district court held the stock purchase an illegal misuse of corporate funds and, based on uncontested expert testimony that the stock had a fair market value at the time of sale of $58.20 to $87.30 per share, entered judgment in favor of the corporation for $491,569, the difference between the total price paid for the shares and the total fair market value of the shares computed at $87.30 per share. 44 Relying on two Delaware cases, Kors v. Carey, 39 Del.Ch. 47, 158 A.2d 136 (1960) and Cheff v. Mathes, 41 Del.Ch. 494, 199 A.2d 548 (1964), defendants argue that directors may in the exercise of their honest business judgment adopt any lawful means of eliminating what appears to them a clear threat to their business. By ordering the stock purchase, defendants were merely seeking to defeat the raid attempted by Belcher III's group, which, if successful, would have been ruinous to the company. A brief look at the facts of these Delaware cases, however, shows that defendants' reliance is misplaced. 45 Both Kors and Cheff were stockholder's derivative actions in which the plaintiff sought to hold directors liable for corporate losses allegedly incurred when the directors caused the corporation to purchase its own shares at inflated prices. In both cases outside interests had acquired substantial equity positions in the corporations and were threatening to take control and to effect radical changes in corporate policy. 46 In Kors the directors of the Lehn & Fink Products Corporation authorized the purchase of Lehn & Fink stock in an effort to prevent control of the corporation from falling into the hands of a man whose business methods . . ., which stress(ed) . . . a readiness to sacrifice an established mode of doing business for quick profits, presented a threat of a possible future business course which was entirely at odds with Lehn & Fink's traditions. Kors v. Carey, 158 A.2d at 141. Finding no evidence that the directors acted out of a selfish desire to maintain themselves in office, the court held the stock purchase to be a valid means of repelling a clear threat to the future of the company's business. 47 In Cheff a takeover of the Holland Furnace Company was threatened by a notorious raider whose modus operandi was to achieve quick profits by sales or liquidations of companies acquired by him. Cheff v. Mathes, 199 A.2d at 552. The court rejected plaintiff's contention that defendants had directed the purchase of Holland shares with corporate funds in order to perpetuate their control of the company, holding that the stock purchase was a legitimate response to a reasonable threat to the continued existence of Holland, or at least existence in its present form . . . . Id. at 556. 48 The case at bar is distinguishable from Kors and Cheff in two regards. First, although defendants contend that the stock purchase was necessary to meet the real and immediate threat to the corporation, they make no attempt to explain what that threat was. The only record evidence we are referred to is defendant Johnson's vague testimony that it would have been disastrous to displace existing management at a time when the oil business was reeling from the effects of the Arab embargo and emergency government controls. Nowhere do defendants allege that Belcher III intended to implement radical changes in corporate policy, strip the corporation of its assets, or otherwise alter the corporation's business structure. Consequently, defendants have failed to carry their burden of proving that the purchase was made primarily in the corporate interest. Cheff v. Mathes, 41 Del.Ch. 494, 199 A.2d 548 (1964); Bennett v. Propp, 41 Del.Ch. 14, 187 A.2d 405 (1962); 6A W. Fletcher, Cyclopedia of the Law of Private Corporations § 2850, at 378 (rev. perm. ed. 1968). 49 Second, Belcher III was hardly an outsider. In contrast to the corporate raiders involved in Kors and Cheff, Belcher III and his supporters can trace their very substantial approximately 45% Ownership interest in the Belcher Oil Company back to the corporation's founding. 50 In this case the district court found that defendants' primary purpose in directing the company to purchase and retire its own shares was to perpetuate their control of the company, which, in those states that have considered the issue, is an unlawful misuse of corporate funds. See, e. g., McPhail v. L. S. Starrett Co., 257 F.2d 388 (1st Cir. 1958); Cheff v. Mathes, 41 Del.Ch. 494, 199 A.2d 548 (1964); Bennett v. Propp, 41 Del.Ch. 14, 187 A.2d 405 (Del.Ch.1962); Anderson v. Albert & J. M. Anderson Manufacturing Co., 325 Mass. 343, 90 N.E.2d 541 (1950); 6A W. Fletcher, Cyclopedia of the Law of Private Corporations § 2850, at 378 (rev. perm. ed. 1968). Supported by ample evidence in the record, this finding is not clearly erroneous. We agree with the district court that the courts of Florida would hold directors liable for corporate losses resulting from practices primarily designed to maintain the directors in control. Cf., e. g., Biltmore Motor Corp. v. Roque, 291 So.2d 114 (Fla.Dist.Ct.App.1974) (court ordered revocation of corporate recapitalization because defendant directors' primary purpose in recapitalizing the company was to oust the plaintiff as a stockholder). 51 Defendants next attack the corporation's money judgment on the ground that the company suffered no damage as a result of the stock purchase. While conceding that the purchase price of $165 a share may have exceeded the stock's fair market value, defendants attempt to cleanse the transaction with the explanation that the stock simply could not be bought for less. Implicit in defendants' explanation is the admission that in their haste to retain control of the company, they were prepared to authorize the expenditure of corporate funds to purchase all available Belcher Oil Company stock regardless of price. The short answer to defendants' argument is that the company did not Have to buy the stock. 52 Nor does the fact that the market value of Belcher Oil Company stock subsequently reached and exceeded the $165 a share purchase price relieve defendants of liability. The company suffered damage at the moment corporate funds were knowingly used to purchase overpriced assets for an unlawful purpose. 53 Finally, defendants contend that the validity of the 1974 election of directors and the legality of the corporation's 1974 stock purchase were issues not raised by the pleadings nor tried with either the express or implied consent of the parties. The complaint in this case was filed prior to the disputed stock purchase and the 1974 election and therefore contains no reference to those events. In their amended answer and a subsequent motion to dismiss, however, defendants themselves set up the 1974 election as a defense to any wrongdoing regarding the 1973 election, arguing that their reelection in 1974 mooted plaintiff's claims regarding the earlier election. The validity of the 1974 election and its legal impact on the 1973 election were subsequently listed in a pretrial stipulation as issues to be determined by the court. 6 Having thus raised the question of the validity of the 1974 election, defendants raised all issues bearing on the resolution of that question, including the legality of the corporation's stock purchase. 54 We conclude that the district court did not commit reversible error in entering judgment against defendants for damages resulting to the corporation from the October 1974 purchase of Belcher Oil Company stock.