Court Opinion

ID: 5482888
Source: CourtListenerOpinion
Date Created: 2022-01-10 02:00:12.929536+00
Date Added: 2024-06-11T08:33:38.637787
License: Public Domain

Fuld, J.
(dissenting). Section 61-b of the General Corporation Law does not, in terms or in spirit, require the posting of security in every action by stockholders that challenges the conduct of directors. Concededly, it lays its burden only upon actions instituted by a shareholder ‘ ‘ in the right ’ ’ of his corporation, and yet the court is now reading into the statute a test which shifts the ground of dispute from the question of whose right is involved to that of whose conduct is attacked.
Section 61-b manifestly does not apply to actions brought by a stockholder to vindicate his personal right. Here it is alleged that the corporation has failed or refused to declare and pay dividends to which its stockholders are entitled. To me, those words plainly charge that the corporation has committed a wrong against the stockholders and, since the action is brought to redress only that wrong, it does not depend upon assertion of the right of the corporation to faithful performance of directoral duties. The plaintiff is entitled to seek — and here is seeking — specific performance of the corporation’s obliga*470tian to pay dividends upon Ms investment. The action is, in short, brought against the corporation as a legal entity and, if successful, will require the corporation to part with some of its assets in favor of its stockholders. I am, therefore, unable to follow the legal alchemy by which a breach of duty by the corporation — a corporate wrong — is transmuted into a corporate right.
The nub of this appeal is to divine the meaning of the statutory phrase “ in the right ” of the corporation. In its search for that meaning, the court has adopted an elaborate test: ‘ whether an action to compel declaration of dividends is maintained in the interest of the corporation,” the opinion reads (p. 459), turns upon whether the object of the action is to recover upon a chose in action belonging to the stockholders or whether “ it is to compel the performance of corporate acts which good faith requires the directors to take in order to perform a duty which they owe to the corporation, and, through it, to its stockholders.”
The vice of the test is that it presupposes that every duty owed by corporate directors runs exclusively to the corporation as such and never directly to the stockholders in their personal and individual right. The law is otherwise. This court has recognized a ‘ ‘ relation of the directors to the stockholders ’ ’ and has defined it as “ essentially that of trustee and cestui que trust ” (Kavanaugh v. Kavanaugh Knitting Co., 226 N. Y. 185, 193), and Judge Vann, when sitting on the Supreme Court, noted that the courts frequently compel directors to perform “ acts required by good faith to stock holders.” (Hiscock v. Lacy, 9 Misc. 578, 593-594; italics supplied.)1
In a very real sense, all suits against corporations — which must of necessity act through directors and officers — involve the action of the directors or of officers responsible to the directors. An indictment under the antitrust laws or a suit based *471upon failure to accept goods contracted for may challenge the conduct of directors, since it is their management which has resulted in the acts about which complaint is made. Eights of the government or of a supplier of merchandise, however, are certainly not to be defeated by a showing that the action or inaction on the part of the directors may also constitute a breach of their fiduciary duty to the corporation. In short, it simply is not the law that an attack on directors’ conduct is, ipso facto, the assertion of a corporate right of action. The mere fact that the power to declare dividends resides in the directors and that a suit to compel a dividend payment challenges directors’ action has no bearing on the question of whose right is involved in such a suit. We must seek elsewhere to ascertain the manner of the “right” that a court enforces when it overrules the decision of corporate directors and commands the corporation to pay dividends.
Time may have dimmed Chief Justice Marshall’s pronouncement that a corporate charter is a contract with the state (see Dartmouth Coll. v. Woodward, 4 Wheat. [U. S.] 518), but it has never been doubted that it represents a contract among the shareholders and between them and the corporation. Some of the terms of the contract are expressed, others are implied, but those implied are no less important and enforcible. For instance, early charters were entirely silent on the pre-emptive right of stockholders to subscribe to new issues, but the right was implied as long ago as 1807 in Gray v. Portland Bank (3 Mass. 364), and we have held that a suit to vindicate this right, far from being one “ in the right ” of the corporation, is personal to the stockholder (see Witherbee v. Bowles, supra, 201 N. Y. 427) and a federal court has ruled that such an action is not within the scope of section 61-b of our General Corporation Law. (See Horowitz v. Balaban, supra, 112 F. Supp. 99.) Other examples are at hand. (See Stevens on Corporations [2d ed., 1949], pp. 785-786.)
I can conceive of no more important or generally understood right of the stockholder in a modern corporation, where he is primarily an investor, than that of receiving dividends upon his investment. It is customary to delimit this right by express *472contractual language in the case of preferred stock, but the right is clearly implied in the case of common stock as well, even though the measure may be different or less certain. In essence, the stockholder has consented, by incorporation of the statutory provisions (General Corporation Law, § 27) into his contract of investment, to the management of the business by the board of directors, and this consent implies agreement that the directors in their business judgment shall determine whether corporate profits are to be distributed as dividends or retained to meet the needs of the business. But such consent does not extend to the point of absurdity; it does not give carte blanche to the directors. Broad as the business judgment rule may be, with corresponding difficulties in the way of proof of abuse, every stockholder has a right, a personal right, to have the directors exercise their discretion in good faith. If the denial of the dividend is not governed by managerial considerations, there is a breach of the contract of investment between stockholder and corporation.
In the present case, if the certificate of incorporation declared that dividends were to be paid on common stock when the corporation’s financial situation and other conditions warrant, it would be indisputable that the stockholders had the right to, and the corporation the corresponding duty of, dividend distribution. (See, e.g., Boardman v. Lake Shore & Michigan Southern Ry. Co., 84 N. Y. 157.) And the corporation’s duty does not become its right merely through the omission of express language in the certificate, for the law reads in the words as clearly as if they were spelled out. The right is the stockholders’, whether the promise to pay the dividends is expressed or implied.
In a case such as the present, with but one class of stock outstanding, it is easy to slip into the fallacy of regarding the common and homogeneous right of the stockholders as the right of the corporation. To expose the fallacy, however, one need but consider the case in which more than one class of stock has been issued, and the shareholders have disparate and conflicting attitudes toward dividend distribution. Assume, for example, that the corporation’s capital structure consists of a class of *473common stock carrying voting rights and effective control and a class of preferred stock entitling its holders to noncumulative dividends. The time may come when the directors, motivated by the interests of the common stockholders, decide not to pay dividends on the preferred stock. Quite obviously, the discretion of directors to declare or to omit the dividend in such an instance is of far greater moment to the preferred stockholders than in the case of common stock. The payment of a noncumulative dividend requires declaration by the directors and, if omitted, the right to it is lost. It would truly be a travesty of justice if the discretion of the directors to declare or to omit the dividend were not subject to judicial review. Such a review, however, would, of necessity, be directly concerned with the injury to the noncumulative preferred stockholders, and not to the corporation.
Since one class may urge and another resist a dividend distribution (see, e.g., Koppel v. Middle States Petroleum Corp., 272 App. Div. 790, affg. 66 N. Y. S. 2d 496), the controversy does not lend itself to analysis in terms of any supposed unitary “ right ” of the corporation as such, and it is not meaningful to say, as the Appellate Division has in this case, that the corporation and its shareholders always have identical interests (280 App. Div. 655, 658).
Nor does the fact that a stockholder may sue at law for a dividend declared mean that he is enforcing the corporation’s right rather than his own when he sues in equity to compel a payment. This is in essence no more than the ordinary distinction between an action for an accounting and one on an account stated. The right of a stockholder to a dividend payment is still personal to him and to his class; it is not the right of the corporation.
In an exceptional case, the failure to pay a dividend may wrong the corporation itself, a wrong which might be redressed through a derivative action. If, for example, such a failure results in the imposition of a penalty upon the corporation — under section 102 of the Internal Bevenue Code — presumably, an action will lie against the directors in the right of the corporation. Such an action, however, would seek payment to the corporation, not by the corporation — precisely the distinction *474between the true derivative stockholders’ action and the case before us.2
No one disputes the right of a corporation to sue its directors for breach of their fiduciary duties. And there is ample authority to sustain the proposition that, in cases of waste or mismanagement or other breach of duty owing directly to the corporation, only the corporation — or a stockholder in an action instituted in the right of the corporation — may sue the directors. No separate personal action may be maintained by the individual shareholder, even though he may have suffered damage through the loss in value of his prorata interest in the corporation. (See Niles v. New York Central & H. R. R. R. Co., 176 N. Y. 119.) The only damage to the shareholders flows from the loss of corporate assets; if the corporation succeeds in its action against the directors, the prorata loss sustained by the shareholders is made good. The assets so recovered, however — just as with other corporate assets — must be held by the corporation as a margin of safety for corporate creditors, and must not be distributed to the shareholders except under conditions which justify a dividend. Protection of the rights of creditors, then, militates against permitting individual actions by shareholders to recover their prorata share of the loss suffered by the corporation. But, quite obviously, these considerations do not apply to an action where the avowed purpose is to compel the payment of a dividend. In such a suit, there is no recovery flowing to the corporation and there is nothing lost by the creditors, since it is clear that no dividend could be compelled which would violate the law governing dividend declarations.
For the very reason that dividend distribution is not the corporation’s right but its duty, the corporation may, in a dividend action, be sued as sole defendant. (See, e.g., Shay v. Metropolitan Life Ins. Co., 172 Misc. 202, affd. 260 App. Div. 958; Welch v. Atlantic Gulf & West Indies S. S. Lines, 101 *475F. Supp. 257, affd. 200 F. 2d 199.) Nothing can he more patent than that the lone defendant in an action is not the owner of the right upon which the suit is grounded. The circumstance that no other defendant than the corporation is necessary is explainable only by recognizing that the corporation is in reality the true adversary. It is just the opposite with a suit founded upon the corporation’s right. In such a case, the corporation is merely a formal defendant against which no relief is demanded. Another party must be found to fill the role of adversary to the plaintiff; in actions based on the corporation’s right the plaintiff stockholder, if qualified to bring suit, merely champions the cause of the immobilized corporation.
The court, however, in its opinion (pp. 464 — 465), suggests that the rationale for permitting a corporation to be sued as a sole defendant in a dividend action is to prevent delinquent directors from thwarting justice by absenting themselves from the court’s jurisdiction. If that were so, if that reason were valid, it would, of course, hold equally in true stockholders’ derivative actions, but we know that no court has ever sanctioned a suit for waste and mismanagement against the corporation alone.
When I say that there is no corporate “ right” to compel payment of dividends, I do not mean to suggest that a corporation has no financial concern or business interest in that subject. On the contrary, a corporation, viewed as a legal personality, may have a very great concern in a balanced dividend policy. Once the law has breathed life into the artificial corporate being, it becomes an entity bent on self-perpetuation and growth. It takes nourishment from the investing public and its desire for continuance and growth makes it interested in remaining solvent and in maintaining a good financial reputation. However, the corporation’s interest in a sound dividend policy must not be confused with the question before us. Section 61-b requires the posting of security in only those actions brought in the corporation’s “ right ”, not in all those touching its “ interest.”
*476I do not mean to minimize the possibility that a corporation may be placed in jeopardy, by way of tax penalties or loss of access to the capital markets, through the failure of its directors to declare dividends. But I cannot too strongly emphasize that the possibility that the same act or failure to act may harm the corporation, is no justification for denying the stockholder’s contractual right to dividends. In Hammer v. Werner (239 App. Div. 38, 44), the court went so far as to say: “ The fact that a particular act of directors may constitute a wrong to the corporation which may be righted ordinarily on behalf of the corporation does not bar a stockholder from having redress if that act effects a separate and distinct wrong to him independently of the wrong to the corporation. Redress of this latter wrong is available to him personally despite the right of a present stockholder to redress the wrong in a derivative action so far as it relates to the corporation. (Von Au v. Magenheimer, 126 App. Div. 257; affd. 196 N. Y. 510; Ritchie v. McMullen, 79 Fed. 522; Rothmiller v. Stein, 143 N. Y. 581.) ” In point of fact, the threat of harm to the corporation can be better averted without forcing recourse to the derivative action. The dangers of tax penalties for improper accumulation of surplus would disappear just as readily if the stockholders were allowed to proceed in their personal, contractual right to compel the payment of dividends. And the protection of the corporation’s access to the capital market would probably be stronger if the minority shareholders have the power to compel the payment of dividends without encountering the roadblocks set up by section 61-b.
Furthermore, it seems to me self-evident that there should be a reasonable and consistent relation between the theory of the action and the relief sought. If we adhere scrupulously to the separate entity theory of corporate personality, it is both illogical and ironic to say that an action must be brought “ in the right ” of the corporation in order to deprive the corporation of part of its assets by the payment of a dividend. And we are no better off if we look at the underlying realities of the controversy. Most of the litigated cases arise in closely held corporations, when it is advantageous for the dominant *477group of shareholders to withhold dividends, and the directors are subservient to the personal interest of this group. The reason may be simply a desire to avoid high-bracket individual taxes — which is the rationale of section 102 of the Internal Revenue Code — a consideration which may be of no weight whatever to the minority. Or there may be a more sinister purpose; the majority, entrenched in salary-paying positions in a profitable corporation, may wish to squeeze out the minority by a process of slow financial starvation. It is not persuasive in this setting to say that there is an identity of interest between the corporation, managed by majority rule, and the minority shareholders. The fundamental fact, and one that may not be blinked, is that the interest of the stockholder who sues to compel a payment of dividends is, to that extent, adverse to that of the corporation, whether the corporation is viewed as a separate person or as an instrument of the dominant group of stockholders. Thus, pragmatically as well as theoretically, a dividend action is not brought in the right of the corporation.
An action is in the right of a corporation, then, if the plaintiff asserts a right deriving from and through the corporation. Such an action “ belongs primarily to the corporation, the real party in interest ”, and a resulting judgment or settlement “ belongs to it and not the individual stockholder plaintiffs ”. (Clarke v. Greenberg, 296 N. Y. 146, 149; see, also, Horwitz v. Balaban, supra, 112 F. Supp. 99, 101; Schreiber v. Butte Copper & Zinc Co., 98 F. Supp. 106, 112.) The reason is that a right of the corporation has been invaded. Since, however, a corporation has no right to compel itself to pay a dividend, the stockholders’ right cannot possibly “derive” from it.
Several cases, as the court notes (opinion, pp. 468, 469), decided in this and other jurisdictions, have held that an action to compel the declaration of dividends may be brought in the right of the corporation (see, e.g., Davidoff v. Seidenberg, 275 App. Div. 784; Lydia E. Pinkham Medicine Co. v. Gove, 303 Mass. 1; Laurel Springs Land Co. v. Fougeray, 50 N. J. Eq. 756), but in no one of them did the court consider the question whether such an action might not be brought in the personal right of *478the stockholder, if he chooses to frame his complaint on that theory and no other. (Cf. Lydia E. Pinkham Medicine Co. v. Gove, supra, 303 Mass. 1.) A far greater number of cases have sustained the action to compel the declaration of dividends on the theory that it is properly brought in the personal right of the stockholder (see, e.g., Kranich v. Bach, 209 App. Div. 52; Pulsch v. Nyack Express Co., 253 App. Div. 734; Dodge v. Ford Motor Co., 204 Mich. 459; Stevens v. United States Steel Corp., 68 N. J. Eq. 373, 375-376; Raynolds v. Diamond Mills Paper Co., 69 N. J. Eq. 299; Fougeray v. Cord, 50 N. J. Eq. 185; Crichton v. Webb Press Co., 113 La. 167; Giesecke v. Denver Tramway Corp., 81 F. Supp. 957); and writers of text and treatise have taken the same view. (See, e.g., Ballantine on Corporations [Rev. ed., 1946], § 234, p. 556; 3 Moore on Federal Practice [2d ed., 1948], pp. 3508-3509; de Capriles and Prunty, 1953 Survey of New York Law, Corporations, 28 N. Y. U. L. Rev. 1429-1431 and 1953 Survey of American Law, 29 N. Y. U. L. Rev. 556-557; Note, 53 Col. L. Rev. 437; Note, 38 Corn. L. Q. 244; Note, 22 Fordham L. Rev. 97.) Typical is what the New Jersey court wrote in Stevens v. United States Steel Corp. (supra, 68 N. J. Eq. 373, 376): “ The corporation is not injured by the retention of profits among its assets, which might be distributed and thus become the private, separate property of the stockholders. On the contrary, the corporation is enriched. The object of this suit is not to compel directors to do or refrain from doing something for the benefit of the corporation, but to do something for the benefit of the complaining stockholder which may be disadvantageous to the corporation.” And Professor Ballantine, after observing that it is an “ erroneous theory ” to regard a stockholder’s suit to enforce payment of a dividend as “ derivative ” in character, goes on to declare (op. cit., pp. 556-557): “ The right of shareholders to distributions of profits is a direct claim upon the corporation, but it is a class and not merely an individual claim. The suit should accordingly be brought as a class or representative suit on behalf of all shareholders of the same class to order a dividend distribution by the corporation for the benefit of all, not for *479relief in favor of the corporation as in a derivative suit.” (Emphasis supplied.)3
The majority intimates that, since suits of this character may be subject to abuse, they fall within the policy of section 61-b. While I do not share the court’s apprehensions on this point, we are not here concerned with the power of the legislature to impose such a limitation on a suit to compel the payment of a dividend if it chooses to do so, but rather with whether it has done so in section 61-b. The statute as enacted does not look at the motives of the stockholder, but at the nature of the right which he asserts. If the stockholder does not proceed in the right of his corporation, as the term is generally understood in the substantive law, it is not the function of the court to extend the limitations of section 61-b to cover all cases in which there may or may not be a possibility of abuse.
Moreover, the legislative history of the section does not lend the slightest support for such an interpretation. The statute was aimed at a particular and well-perceived abuse — the so-called “ strike suit,” brought on behalf of a corporation against its directors or officers by persons who, since their holdings are “ too small to indicate legitimate personal interest in the outcome and accordingly in the bringing of the action,” realize the nuisance value of their suits and hope to be bought off by secret settlements. (Wood, Survey and Report Regarding Stockholders’ Derivative Suits [1944], p. 21; see, also, Public Papers of Governor Dewey [1944], p. 255; Cohen v Beneficial Loan Corp., 337 U. S. 541, 548-549; Lapchak v. Baker, 298 N. L. 89, 94-95; Shielcrawt v. Moffett, 294 N. Y. 180, 190.) Actions for waste or mismanagement were peculiarly vulnerable to that abuse. Since only the corporation would benefit directly from recovery, and creditors’ rights might intervene, the stockholder’s chance of gain would be secondhand at best. Beyond *480that, if his interest were fractional, his benefit would be as small as it would be remote. By inducing a secret settlement for his direct and selfish benefit, he might obtain sums wholly disproportionate to his stock interest. By the same token, faithless directors or officers, facing large personal liability and jeopardy, were tempted to enter into the secret bargain as a cheap way out.
However, since the directors are not threatened with personal liability, no such opportunities or temptations attend, or are characteristic of, a suit to compel the payment of dividends. That such actions were not the evil at which the legislation was aimed, was made clear by Governor Dewey when, in approving the legislation, he declared that it was aimed at “ stockholder suit[s] against corporation directors and officers.” (Public Papers of Governor Dewey, op. cit., p. 255; emphasis supplied.)
I would reverse the order of the Appellate Division and answer both certified questions in the negative.

. For example, in a proper case, stockholders may obtain direct redress for the directors’ refusal to permit them to inspect the corporation’s books or to vote or to have their stock transferred or to assert pre-emptive rights or to avoid a wrongful increase of stock issued to others which results in impairing their relative positions within the capital structure. (See, e.g., Witherbee v. Bowles, 201 N. Y. 427; Horwitz v. Balaban, 112 F. Supp. 99.)

. It is interesting to note that the same Appellate Division that decided the present case recently described a “ derivative ” suit as one which “ seeks to benefit the corporation by restoring property to it or compensating it for losses suffered.” [Fontheim v. Walker, 282 App. Div. 373, 375, affd. 306 N. Y. 926.)

. The flat statement in Fletcher’s work on Corporations ([Perm, ed., 1932] vol. 11, § 5326, p. 816) to the effect that the action is “ generally ” derivative is based on dicta in the early New Jersey case (Laurel Springs Land Co. v. Fougeray, supra, 50 N. J. Eq. 756). The fact is, however, that the New Jersey court, twelve years later, unqualifiedly declared that the action is an “ individual ” or class action and is not to be brought in the right of the corporation. (See Stevens V. United States Steel Corp., supra, 68 N. J. Eq. 373; Raynolds v. Diamond Mills Paper Co., supra, 69 N. J. Eq. 299.)