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MASSACHUSETTS SCHOOL OF LAW
BUSINESS ASSOCIATIONS
SHORTFORM
SPRING SEMESTER
2016
Professor Andrej Thomas Starkis
i
Table of Contents
Table of Contents............................................. ii
Table of Cases................................................. v
Agency Cases................................................... 1
Health Care Services Group v. Royal Healthcare .......... 1
Robichaud v. Athol Credit Union ......................... 6
Elliott v. Great Nat’l Life Ins. Co. .................... 9
Hoddeson v. Koos Bros. ................................. 12
Rowen & Blair El. Co. v. Flushing Operating Corp. ...... 16
Perkins v. Rich ........................................ 20
Demian, Ltd. v. Charles A. Frank Assoc. ................ 24
Ell Dee Clothing Co. v. Marsh .......................... 29
Resnick v. Abner B. Cohen Advertising, Inc. ............ 31
Williams v. Investors Syndicate ........................ 33
Grinder v. Bryans Road Bldg. & Supply Co. .............. 35
Insurance Co. of North America v. Miller ............... 40
Southern Farm Bureau Cas. Ins. Co. v. Allen ............ 53
Sutton Mutual Ins. Co. v. Notre Dame Arena, Inc. ....... 57
Georgia-Pacific Corp. v. Great Plains Bag Co. .......... 60
Lane Mtg. Co. v. Crenshaw .............................. 64
King v. Driscoll ....................................... 78
Pine River State Bank v. Mettille ...................... 85
DeVoe v. Cheatham ...................................... 92
National Recruiters, Inc. v. Cashman ................... 95
Safety-Kleen v. McGinn ................................ 100
Maryland Metals, Inc. v. Metzner ...................... 103
BBF, Inc. v. Germanium Power Devices Corp. ............ 111
Cullen v. BMW ......................................... 114
Davila v. Yellow Cab Co. .............................. 119
Boyd v. Crosby Lumber & Mfg. Co. ...................... 126
Marvel v. U.S. ........................................ 131
Good v. Berrie ........................................ 134
Cowan v. Eastern Racing Ass’n ......................... 137
Doody v. John Sexton & Company ........................ 141
Mullen v. Horton ...................................... 143
Gizzi v. Texaco ....................................... 152
Drumond v. Hilton Hotel Corp. ......................... 155
Ramos v. Preferred Medical ............................ 158
Partnership & Other Entities................................. 162
Trans-America Construction v. Comerica Bank ........... 163
H20’C Ltd v. Brazos ................................... 166
Young v. Jones ........................................ 173
Owen v. Cohen ......................................... 177
ii
Page v. Page ..........................................
Long v. Lopez .........................................
National Biscuit Company, Inc. v. Stroud ..............
Meinhard v. Salmon ....................................
Day v. Sidley & Austin ................................
Clevenger v. Rehn .....................................
Collins v. Lewis ......................................
Monin v. Monin ........................................
Lawlis v. Kightlinger & Gray ..........................
Jewel v. Boxer ........................................
Bassan v. Investment Exchange Corp. ...................
Holzman v. De Escamilla ...............................
First American Title v. Lawson ........................
Corporation Cases............................................
Louis K. Liggett Co. v. Lee ...........................
Frigidaire Sales Corp. v. Union Properties, Inc. ......
Ingalls v. Standard Gypsum ............................
Olympus America v. 5th Avenue Photo ...................
Kingfield Wood v. Hagan ...............................
Sea-Land Services, Inc. v. Pepper Source ..............
Walkovszky v. Carlton .................................
My Bread Baking Co. v. Cumberland Farms, Inc. .........
Kinney Shoe Corp. v. Polan ............................
Silicone Gel Breast Implants Prod. Liab. Lit. .........
Commissioner v. RLG, Inc. .............................
Goodwin v. Agassiz ....................................
Shlensky v. Wrigley ...................................
Kamin v. American Express Co. .........................
Joy v. North ..........................................
Graham v. Allis-Chalmers Mfg. Co. .....................
Sinclair Oil Corp. v. Levien ..........................
Lewis v. S. L. & E., Inc. .............................
Wheelabrator Technologies, Inc. Shareholders Lit. .....
Energy Resources Corp., Inc. v. Porter ................
Juergens v. Venture Capital Corp. .....................
Boston Athletic Ass’n v. Int’l Marathons, Inc. ........
Smith v. Van Gorkom ...................................
Stroh v. Blackhawk Holding Corp. ......................
McQuade v. Stoneham ...................................
Clark v. Dodge ........................................
Ringling Bros.Barnum & Bailey v. Ringling .............
Galler v. Galler ......................................
Ramos v. Estrada ......................................
Walta v. Gallegos .....................................
Cain v. Cain ..........................................
Smith v. Atlantic Properties, Inc. ....................
iii
180
183
189
192
197
203
212
217
219
225
230
236
238
249
249
252
254
261
263
269
274
280
284
287
293
300
303
307
311
318
322
326
332
338
341
344
351
373
377
383
385
392
398
404
414
421
Wilkes v. Springside Nursing Home, Inc. ............... 427
Merola v. Exergen ..................................... 434
Anderson v. Wilder .................................... 438
Pinebrook Properties v. Brookhaven Lake Property ...... 449
Appendix................................................... - 1 Massachusetts General Laws ............................... - 1 CHAPTER 108A. PARTNERSHIPS .......................... - 1 CHAPTER 109. LIMITED PARTNERSHIP ................... - 20 CHAPTER 156C LIMITED LIABILITY COMPANY ACT ......... - 43 CHAPTER 156D BUSINESS CORPORATIONS ................. - 74 -
iv
Table of Cases
Cases
Anderson v. Wilder........................................... 438
Bassan v. Investment Exchange Corp........................... 230
BBF, Inc. v. Germanium Power Devices Corp.................... 111
Boston Athletic Ass’n v. Int’l Marathons, Inc................ 344
Boyd v. Crosby Lumber & Mfg. Co.............................. 126
Cain v. Cain................................................. 414
Clark v. Dodge............................................... 383
Clevenger v. Rehn............................................ 203
Collins v. Lewis............................................. 212
Commissioner v. RLG, Inc..................................... 293
Cowan v. Eastern Racing Ass’n................................ 137
Cullen v. BMW................................................ 114
Davila v. Yellow Cab Co...................................... 119
Day v. Sidley & Austin....................................... 197
Demian, Ltd. v. Charles A. Frank Assoc........................ 24
DeVoe v. Cheatham............................................. 92
Doody v. John Sexton & Company............................... 141
Drumond v. Hilton Hotel Corp................................. 155
Ell Dee Clothing Co. v. Marsh................................. 29
Elliott v. Great Nat’l Life Ins. Co............................ 9
Energy Resources Corp., Inc. v. Porter....................... 338
First American Title v. Lawson............................... 238
Frigidaire Sales Corp. v. Union Properties, Inc.............. 252
Galler v. Galler............................................. 392
Georgia-Pacific Corp. v. Great Plains Bag Co.................. 60
Gizzi v. Texaco.............................................. 152
Good v. Berrie............................................... 134
Goodwin v. Agassiz,.......................................... 300
Graham v. Allis-Chalmers Mfg. Co............................. 318
Grinder v. Bryans Road Bldg. & Supply Co...................... 35
H20’C Ltd v. Brazos.......................................... 166
Health Care Services Group v. Royal Healthcare................. 1
Hoddeson v. Koos Bros......................................... 12
Holzman v. De Escamilla...................................... 236
Ingalls v. Standard Gypsum................................... 254
Insurance Co. of North America v. Miller...................... 40
Jewel v. Boxer............................................... 225
Joy v. North................................................. 311
Juergens v. Venture Capital Corp............................. 341
Kamin v. American Express Co................................. 307
King v. Driscoll.............................................. 78
v
Kingfield Wood v. Hagan...................................... 263
Kinney Shoe Corp. v. Polan................................... 284
Lane Mtg. Co. v. Crenshaw..................................... 64
Lawlis v. Kightlinger & Gray................................. 219
Lewis v. S. L. & E., Inc..................................... 326
Long v. Lopez................................................ 183
Louis K. Liggett Co. v. Lee.................................. 249
Marvel v. U.S................................................ 131
Maryland Metals, Inc. v. Metzner............................. 103
McQuade v. Stoneham.......................................... 377
Meinhard v. Salmon........................................... 192
Merola v. Exergen............................................ 434
Monin v. Monin............................................... 217
Mullen v. Horton............................................. 143
My Bread Baking Co. v. Cumberland Farms, Inc................. 280
National Biscuit Company, Inc. v. Stroud..................... 189
National Recruiters, Inc. v. Cashman.......................... 95
Olympus America v. 5th Avenue Photo.......................... 261
Owen v. Cohen................................................ 177
Page v. Page................................................. 180
Perkins v. Rich............................................... 20
Pine River State Bank v. Mettille............................. 85
Pinebrook Properties v. Brookhaven Lake Property............. 449
Ramos v. Estrada............................................. 398
Ramos v. Preferred Medical................................... 158
Resnick v. Abner B. Cohen Advertising, Inc.................... 31
Ringling Bros.Barnum & Bailey. v. Ringling................... 385
Robichaud v. Athol Credit Union................................ 6
Safety-Kleen v. McGinn....................................... 100
Sea-Land Services, Inc. v. Pepper Source..................... 269
Shlensky v. Wrigley.......................................... 303
Silicone Gel Breast Implants Prod. Liab. Lit................. 287
Sinclair Oil Corp. v. Levien................................. 322
Smith v. Atlantic Properties, Inc............................ 421
Smith v. Van Gorkom.......................................... 351
Southern Farm Bureau Cas. Ins. Co. v. Allen................... 53
Stroh v. Blackhawk Holding Corp.............................. 373
Sutton Mutual Ins. Co. v. Notre Dame Arena, Inc............... 57
Trans-America Construction v. Comerica Bank.................. 163
Walkovszky v. Carlton........................................ 274
Walta v. Gallegos............................................ 404
Wheelabrator Technologies, Inc. Shareholders Lit............. 332
Wilkes v. Springside Nursing Home, Inc....................... 427
Williams v. Investors Syndicate............................... 33
Young v. Jones............................................... 173
vi
Agency Cases
Health Care Services Group v. Royal Healthcare
276 F.Supp.2d 255
United States District Court,
D. New Jersey.
HEALTHCARE SERVICES GROUP, INC., Plaintiff,
v.
ROYAL HEALTHCARE OF MIDDLESEX, LLC; and Middlesex County Improvement
Authority, Defendants.
Middlesex County Improvement Authority, Defendant/Third Party Plaintiff,
v.
Surbhi Tarkas; Amjad Chowdry; and Greenwich Insurance Company, Third-Party
Defendants.
Aug. 13, 2003.
OPINION
WALLS, District Judge.
Plaintiff Healthcare Service Group, Inc. ("HCSG" or "Plaintiff") moves for summary
judgment in its breach of contract claim against defendant Middlesex County Improvement
Authority ("MCIA"). * * * Plaintiff's motion for summary judgment is granted; * * *
FACTS AND PROCEDURAL BACKGROUND
The Roosevelt Care Center (the "Center") is a 530-bed long-term healthcare facility located
in Edison, New Jersey. MCIA owns and holds a license to operate the Center. On March 13, 2000,
MCIA entered into an Agreement for Interim Management and Administration (the "Management
Agreement") of the Center with Royal Healthcare of Middlesex, LLC ("Royal"). Surbhi Tarkas
("Tarkas") and Amjad Chowdry ("Chowdry") were the principals of Royal. At various times, Tarkas
and Chowdry also owned, operated or managed other long- term care facilities in New Jersey.
Pursuant to the Management Agreement, Royal managed, administered, operated and maintained the
Center, and MCIA paid Royal operating expenses in the monthly amount of $2.3 million. * * *
On April 1, 2000, Royal entered into a Service Agreement and a Food Service Agreement
(the "Service Agreements") at the Center with Plaintiff. The MCIA consented to Royal's retention of
HCSG as a subcontractor. From April 1, 2000 through September 30, 2000, Plaintiff managed the
housekeeping and laundry departments at the Center, and provided food services. Royal was to pay
1
Plaintiff $114,632 per month for these services. Plaintiff also provided similar services to other
long-term care facilities owned, operated or managed by Tarkas and Chowdry--Progressive Nursing
Center; Meadowview Nursing Center; Royal Healthgate Nursing and Rehabilitation; Cliffside
Health Care Center; Freehold Rehabilitation & Nursing Center; and Regal Manor Health Care
Center. At the time Plaintiff negotiated the Agreements at the Center with Tarkas and Chowdry, the
accounts at the other long-term care facilities were delinquent. When the Service Agreements
terminated on September 30, 2000, Plaintiff requested a copy of the Management Agreement.
Plaintiff alleges that Royal failed to pay all of the invoices due under the Service Agreements
at the Center. On January 9, 2001, Royal executed a promissory note (the "Note") for $342,311.52-the amount due to Plaintiff under the two agreements. The Note required payments on January 25,
February 25, March 25, April 25, May 25 and June 25, 2001, with a specified interest rate of 8
percent per year, and provides for reimbursement to Plaintiff of all costs, expenses and reasonable
attorneys' fees. Royal failed to make any payments under the Note and, on July 11, 2001, Plaintiff
filed its complaint against Royal and MCIA seeking $342,311.52, attorneys' fees, and costs. On
March 12, 2002, default judgment was entered against Royal, ordering Royal to pay Plaintiff
$342,311.52, plus interest at the rate of 8 percent, along with costs, expenses, and reasonable
attorneys' fees. Plaintiff now moves for summary judgment against Defendant MCIA.
*
*
*
STANDARD FOR SUMMARY JUDGMENT
Summary judgment is appropriate where the moving party establishes that "there is no
genuine issue as to any material fact and that [it] is entitled to a judgment as a matter of law."
Fed.R.Civ.P. 56(c). A factual dispute between the parties will not defeat a motion for summary
judgment unless it is both genuine and material. See Anderson v. Liberty Lobby, Inc., 477 U.S. 242,
247-48, 106 S.Ct. 2505, 2510, 91 L.Ed.2d 202 (1986). A factual dispute is genuine if a reasonable
jury could return a verdict for the non-movant and it is material if, under the substantive law, it
would affect the outcome of the suit. Id. at 248, 106 S.Ct. at 2510. The moving party must show
that if the evidentiary material of record were reduced to admissible evidence in court, it would be
insufficient to permit the non-moving party to carry its burden of proof. See Celotex v. Catrett, 477
U.S. 317, 323, 106 S.Ct. 2548, 2552, 91 L.Ed.2d 265 (1986).
Once the moving party has carried its burden under Rule 56, "its opponent must do more than
simply show that there is some metaphysical doubt as to the material facts." Matsushita Elec. Indus.
Co. v. Zenith Radio Corp., 475 U.S. 574, 586, 106 S.Ct. 1348, 1356, 89 L.Ed.2d 538 (1986). The
opposing party must set forth specific facts showing a genuine issue for trial and may not rest upon
the mere allegations or denials of its pleadings. See Sound Ship Building Corp. v. Bethlehem Steel
Co., 533 F.2d 96, 99 (3d Cir.1976), cert. denied, 429 U.S. 860, 97 S.Ct. 161, 50 L.Ed.2d 137 (1976).
At the summary judgment stage the court's function is not to weigh the evidence and determine the
truth of the matter, but rather to determine whether there is a genuine issue for trial. See Anderson,
477 U.S. at 249, 106 S.Ct. at 2510. In doing so, the court must construe the facts and inferences in
the light most favorable to the non-moving party. See Wahl v. Rexnord, Inc. 624 F.2d 1169, 1181
(3d Cir.1980).
2
DISCUSSION
A. Plaintiff's Motion for Summary Judgment
HCSG managed the housekeeping and laundry departments at the Center, and provided food
services. In exchange, Royal paid Plaintiff $114,632 per month. Because MCIA authorized Royal to
manage, administer, operate and maintain the Center, and permitted Royal to retain subcontractors to
perform these duties, HCSG insists that Royal acted with MCIA's authority when Royal hired
HCSG. Both parties agree that MCIA owns the Center and holds the Certificate of Need, the license
necessary to operate the Center. Consequently, MCIA is legally responsible for the Center's
management and operation. MCIA reserved the right to control and direct Royal's activities at the
Center, and could terminate Royal for any failure to comply with the Management Agreement.
Section 2.2 of the Management Agreement reads:
The MCIA, as the holder of the Certificate of Need, is responsible for the overall conduct of
Roosevelt Care Center and compliance with all Applicable Laws. By executing this Agreement,
the MCIA has engaged Royal, and Royal has accepted such engagement, to manage, administer,
operate and maintain Roosevelt Care Center as the MCIA's agent, on the MCIA's behalf and
for the MCIA's account.
Management Agreement, at § 2.2 (emphasis added). Section 9.5 further addresses the relationship
of the parties:
Except as otherwise explicitly provided herein, or by Applicable Laws, no party to this
Agreement shall have any responsibility whatsoever with respect to services which are to be
provided or contractual obligations that are to be assumed by any other party and nothing in this
Agreement shall be deemed to constitute any party a partner, joint venture participant, agent or
legal representative of any other party or to create any fiduciary relationship between or among the
parties.
Management Agreement, at § 9.5 (emphasis added). While this section attempts to limit MCIA's
liability to third-parties, the statement "Except as otherwise explicitly provided herein" serves to
retain the meaning of Section 2.2, which states "MCIA has engaged Royal, and Royal has accepted
such engagement, to manage, administer, operate and maintain Roosevelt Care Center as the
MCIA's agent, on the MCIA's behalf and for the MCIA's account." However, Section 9.18
states:
Royal shall not subcontract any portions of the Interim Management Services required to be
provided under the terms of this Agreement without the prior written consent of the MCIA....
Royal shall (notwithstanding such subcontract) be fully responsible to the MCIA for all acts and
omissions of its subcontractors, agents, persons or organizations engaged by Royal to furnish any
services under a direct or indirect contract with Royal to the same extent that Royal is responsible
for its own acts and omissions. Nothing in this Agreement shall create or be construed to
create any contractual relationship between the MCIA and any such subcontractor, agent,
person or organization.
3
Management Agreement, at § 9.18 (emphasis added). While Royal's decision to retain HCSG as a
subcontractor was subject to the approval of MCIA, the MCIA denies that the Management
Agreement created an agency relationship.
Plaintiff argues that Royal acted as MCIA's agent when Royal retained HCSG as a
subcontractor and entered into the Service Agreements. When Royal failed to pay HCSG's invoices,
Royal signed a Note for $342,311.52--the amount due to Plaintiff under the Service Agreements.
Because Royal has failed to make any payments under the Note, and the Court has entered default
judgment against Royal, HCSG seeks to recover the principal amount due and owing for its services,
as well as costs, expenses and reasonable attorney's fees from MCIA.
HCSG seeks to hold MCIA liable for Royal's default because, at all times, Royal acted as
MCIA's agent. HCSG insists that MCIA is liable as the principal for the acts of its agent. Both
HCSG and MCIA agree with the central tenet of agency law: an agency relationship exists when a
principal permits an agent to act on his behalf, "with the principal controlling and directing the acts
of the agent." Sears Mortgage Corp. v. Rose, 134 N.J. 326, 337, 634 A.2d 74 (1993) (citations
omitted). The actual authority a principal gives to its agent may be express or implied. Automated
Salvage Transport, Inc. v. NV Koninklijke KNP BT, 106 F.Supp.2d 606, 617 (D.N.J.1999). Express
authority specifies "minutely" what the agent may do. Id. (citations omitted). Implied authority
permits an agent "to undertake all transactions necessary to fulfill the duties required of an agent in
exercise of express authority." Id. (citations omitted). Absent express or implied authority, a party
can be an agent based upon the apparent authority manifested by acts of the principal. Sears
Mortgage Corp., 134 N.J. at 338, 634 A.2d 74.
Plaintiff argues that the Management Agreement clearly sets forth an implied agency
relationship between Royal and MCIA. By entering into the Management Agreement, Plaintiff
contends that MCIA engaged Royal to manage, administer, operate and maintain the Center "as
MCIA's agent," "for MCIA's account," and "on MCIA's behalf." Management Agreement, at § §
2.1-2.3. However, MCIA argues that other provisions of the Management Agreement set forth that
Royal was not MCIA's agent. Specifically, Section 9.18 states "Nothing in this Agreement shall
create, or be construed to create, any contractual relationship between the MCIA and any such
subcontractor, agent, person or organization." Management Agreement, at § 9.18. While the
Management Agreement does not set forth Royal's duties "minutely," the Court concludes that Royal
had implied authority to enter into the Service Agreements on MCIA's behalf with HCSG pursuant
to the Management Agreement.
"Implied authority may arise as a necessary or reasonable implication in order to effectuate
other authority expressly conferred and embraces authority to do whatever acts are incidental to, or
are necessary, usual, and proper to accomplish or perform, the main authority expressly delegated to
the agent." 3 Am.Jur.2d § 72, at 486. New Jersey's Supreme Court states that an examination of
implied authority rests upon "the nature or extent of the function to be performed, the general course
of conducting the business, or from particular circumstances in the case." Sears Mortgage Corp.,
134 N.J. at 338, 634 A.2d 74, quoting Carlson v. Hannah, 6 N.J. 202, 212, 78 A.2d 83 (1951).
Royal acted with MCIA's authority when it retained HCSG as a subcontractor. In the
4
Management Agreement, MCIA authorized Royal "to manage, administer, operate, and maintain the
Roosevelt Care Center," and to employ subcontractors. Management Agreement, at § 2.2, and §
2.4. Sections 9.5 and 9.18 are not relevant because HCSG asserts neither a third-party beneficiary
nor a direct contract claim against MCIA. Royal's retention of HCSG as a subcontractor was within
the scope of the Management Agreement, and the Court concludes that Royal had implied authority
to enter into the Service Agreements with HCSG at the Center.
MCIA argues that it is not liable for Royal's default because HCSG relied on Royal's
apparent authority to enter into the Service Agreements, and was utterly indifferent as to MCIA's
role. In a relationship based upon apparent authority, a party may be an agent "by virtue of apparent
authority based on manifestations of that authority by the principal. Of particular importance is
whether a third party has relied on the agent's apparent authority to act for a principal." Sears
Mortgage Corp., 134 N.J. at 338, 634 A.2d 74 (citations omitted). However,
[W]here the facts show that the third person in dealing with the putative agent is utterly indifferent
to the existence of a principal, and rather indicates that the dealings are with the putative agent as a
principal, no liability can be fashioned against one who later may appear by circumstance to be in
a possible position of "apparent or ostensible" principal.
N. Rothenberg & Son v. Nako, 49 N.J.Super. 372, 382, 139 A.2d 783 (App.Div.1958) (citation
omitted).
Before HCSG entered into the Service Agreements with Royal to provide food services at the
Center and manage its housekeeping and laundry departments, it provided similar services to other
long-term care facilities owned, operated or managed by Tarkas and Chowdry, the principals of
Royal. These long-term care facilities were: Progressive Nursing Center; Meadowview Nursing
Center; Royal Healthgate Nursing and Rehabilitation; Cliffside Health Care Center; Freehold
Rehabilitation & Nursing Center; and Regal Manor Health Care Center (collectively, "Professional
Healthcare"). In April 2000, when Plaintiff negotiated the Service Agreements at the Center with
Tarkas and Chowdry, Plaintiff knew that the accounts at Progressive Nursing Center, Meadowview
Nursing Center, Cliffside Healthcare Center, and Freehold Rehabilitation & Nursing Center were
delinquent. Specifically, Professional Healthcare owed Plaintiff in excess of $130,000.00. Further,
Plaintiff did not perform a credit background check on Royal or on Professional Healthcare before
entering into the Service Agreements.
Because Plaintiff had already developed a business relationship with Tarkas, Chowdry and
Professional Healthcare, MCIA argues that Plaintiff would have entered into the Service Agreements
at the Center regardless of MCIA's status as Royal's principal. "Plaintiff was aware of the risk in
dealing with Royal and chose to proceed to contract with Royal notwithstanding such risk. It cannot
now look to the MCIA to recover its loss." Def. Opposition Br., at 6-7. The issue of reliance would
be relevant if HCSG's agency claim were based on apparent authority. The Court has already
determined that the agency relationship between MCIA and Royal was based on actual authority
granted in the Management Agreement, and rejects MCIA's argument.
MCIA also argues that the default judgment entered against Royal in Plaintiff's favor was an
election of remedies, so Plaintiff is barred from seeking judgment against MCIA. The election of
5
remedies doctrine "prohibits a party, in asserting his rights, from occupying inconsistent positions 'in
relation to the facts which form the basis of his respective remedies.' The purpose of the rule is to
prevent double recoveries, forum shopping, and harassment of defendants by dual proceedings."
Cleary v. U.S. Lines, Inc., 555 F.Supp. 1251, 1256 (D.N.J.1983) (citations omitted). Because the
default judgment against Royal has not yet been satisfied, Plaintiff has not recovered anything from
Royal so there is no risk of double recovery. In Moss v. Jones, 93 N.J.Super. 179, 225 A.2d 369
(App.Div.1966), the court said: "There may be several judgments against different persons for the
same obligation or liability, so long as there is only one satisfaction or recovery." Id. at 184, 225
A.2d 369, citing Pennsylvania Greyhound Lines v. Rosenthal, 14 N.J. 372, 385, 102 A.2d 587 (1954)
and Losito v. Kruse, 136 Ohio St. 183, 24 N.E.2d 705 (1940). Further, there is no evidence of forum
shopping or dual proceedings for the purpose of harassing defendants. The Court concludes that the
election of remedies doctrine does not apply: "a person injured by the negligence of an agent or
servant may sue the agent or servant and the principal or master in one suit, or may proceed against
them in separate suits, and the recovery of a judgment, not satisfied, against the agent or servant does
not bar a separate suit against the principal or master." Id. at 185, 24 N.E.2d 705.
Given the outcome of Plaintiff's motion for summary judgment, the Court dismisses as moot
MCIA's motion to amend the pretrial scheduling order to identify an expert witness out of time. The
Court also denies Plaintiff's request to submit a sur-reply brief in opposition to Plaintiff's motion for
summary judgment.
*
*
*
CONCLUSION
* * * Plaintiff's motion for summary judgment is granted;
*
*
*
Robichaud v. Athol Credit Union
352 Mass. 351, 225 N.E.2d 347 (1967)
Irene E. ROBICHAUD
v.
ATHOL CREDIT UNION
Supreme Judicial Court of Massachusetts, Worcester
Argued March 6, 1967
Decided April 5, 1967.
*352 WHITTEMORE, Justice.
6
The plaintiff's bill in equity sought cancellation of a note and discharge of a mortgage dated
March 31, 1962, written for a fifteen year term in the amount of $5,000. The alleged basis for relief
was that, in connection with negotiating the loan to the plaintiff and her deceased husband, Ernest J.
Robichaud, the defendant had undertaken to make arrangements for insurance to cover payment of
the loan in the event of Robichaud's death and had not done so, with the result that the plaintiff had a
claim offsetting the amount due under the note. The defendant's answer included a counterclaim
under the note and mortgage. The evidence is reported
The judge in the Superior Court found, on subsidiary findings, that the defendant entered into
a contract to procure the insurance on the life of Robichaud and that the plaintiff and her husband
had paid the premiums but the defendant had not procured the insurance. He ruled that the note and
mortgage should be cancelled and discharged. The final decree so provided. The defendant
contends that there is no evidence of such a contract between the defendant and either the plaintiff or
her husband
The evidence showed, in accordance with findings of the judge, an original ten year loan for
$2,000 dated November 15, 1961, covered by insurance on Robichaud's life. Charges to cover the
cost of the insurance were included in the statement of monthly payments and were paid. The fifteen
year, $5,000 loan, to supersede the ten year loan, was negotiated in March, 1962. At the date of
Robichaud's death in July, 1962, $4,000 had been advanced on the loan
It was shown that the defendant had a group insurance policy issued under G.L. c. 175, s 133,
permitting the insurer to cover '(c) a group of (not less than one hundred) persons who at any time
are debtors of a bank * * * for a loan * * * or any balance thereof, in instalments over a *353 period
of not more than ten years * * * for an amount not exceeding his individual indebtedness * * * and
not exceeding ten thousand dollars * * * provided * * * that no such debtor shall be insured in such a
group for a period of more than ten years on account of a debt arising out of said loan.'
Robert Linehan, assistant treasurer of the defendant, testified that in March, 1962, he
discussed with Robichaud the increased loan. He pointed out to Robichaud, with reference to the
application form, that if the loan was to be written for ten years he could have insurance but if it was
to be for a longer period 'we could not cover it with insurance.' In a day or two Robichaud told
Linehan that the decision had been made to have the fifteen year loan. The papers to set up the loan
**349 would have been drawn by the treasurer, his father, Joseph R. Linehan. Q. 'And if this
payment book says that it was set up for $2.75 (monthly premium) for insurance, then he would have
done it?' A. 'If it had been set up that way, he would have.' The first payment by the Robichauds
was on April 12, 1962, as shown by the loan book. That payment was for $32.72 and included $2.75
credited in the book to insurance. The bank collected like premiums in May, June and July
Joseph R. Linehan testified that the bank used for the new loan the same loan book that had
been used for the $2,000 loan. Looking at the book, he said, '(W)hen the loan is put through, we
collect the first premium for that month. And the loan not being insured, that premium was not
collected (on March 31, 1962, when the loan was made out).' He testified that the $2.75 premiums
were collected through error, 'apparently (by) one of the clerks.'
The plaintiff testified that when she and her husband went to the bank in March, 1962, to sign
the prepared papers on the new loan and met with Joseph R. Linehan, there was no talk of insurance
that she remembered. Thereafter on one occasion when making payments at the defendant's office
she asked the girl who took her money to explain what every column in the book was. The girl told
7
*354 her 'the $2.75 was my insurance.' The plaintiff said, 'I want you to make sure we have
insurance because of the work he (Robichaud) has. * * * I don't want to be $5,000 in the hole if
something happens.' The girl 'went to the file, * * * looked it up' and said, 'Oh yes, it's in black and
white. * * * You're insured.' Robichaud was in the roofing business
Mrs. Robichaud also testified that about a month before her husband was killed, and
following his brother's fall from a roof and consequent death, in the course of discussing that
casualty, Robichaud said, 'If anything happens to me, Irene, I know you will have the place as yours,
and I know you will have a place to raise the children without worrying about paying; just the taxes,
that's all.'
Mrs. Robichaud and Robert Linehan agreed in their testimony that, shortly after Robichaud's
death, she talked with Robert and that, after having looked at the legder card, he told her that the
loan was insured. The evidence tended to show also that a few days later the elder Linehan called,
bringing the folder in relation to the loan and told Mrs. Robichaud, 'You had no insurance * * * we
made a mistake.' It was agreed that Mrs. Robichaud's testimony as to her two talks at the bank
would be corroborated by the testimony of two witnesses, one having heard the talk with the girl at
the counter and the other having been present at the talk with Robert Linehan.
The judge, of course, could disbelieve the testimony that Robert Linehan had told Robichaud
that the fifteen year loan could not be insured. There is, however, no evidence that the defendant
undertook to make an insured loan or to procure insurance on Robichaud's life, and the finding to
that effect cannot stand
The evidence does, however, support the final decree. There is no dispute that the loan book
and the statement of the girl at the counter represented to the borrowers that payments were due for
insurance premiums and that there was insurance. We rule that it was within the apparent authority
of the girl at the counter to make statements as *355 to what the items in the loan book covered. It
does not appear who put the items in the book, but the book spoke for the bank. [FN1] The evidence
**350 shows that there were entries not only in the book but also on the bank's ledger card. The
statements of the treasurer and assistant treasurer after the death of Robichaud tended to confirm that
the loan had been represented to the Robichauds as insured. The representations were of a fact
susceptible of actual knowledge and proof of intent to deceive is not required. Pietrazak v.
McDermott, 341 Mass. 107, 110, 167 N.E.2d 166, and cases cited. The representations were
intended to be relied on by the Robichauds in making the payment for the insurance premiums
claimed due and in going forward with their obligations under the contract. The evidence shows that
the Robichauds did reasonably rely on the existence of insurance. We think it unnecessary that there
be affirmative testimony that, except for the representation, they would have sought to reduce the
term of the loan to ten years so as to have the benefit of the bank's group policy, or would have
sought other insurance. See Rice v. Price, 340 Mass. 502, 507--508, 164 N.E.2d 891; Baglio v. New
York Cent. R.R., 344 Mass. 14, 19--20, 180 N.E.2d 798; McLearn v. Hill, 276 Mass. 519, 524--525,
177 N.E. 617, 77 A.L.R. 1039 (estoppel); Prosser, Torts, 3d ed. s 102. The plaintiff was damaged,
and may recover what she would have had if the representation had been true. Rice v. Price, supra,
340 Mass. 507, 164 N.E.2d 891
FN1. Conceivably, the error related to the use of the same loan book, with provision
therein for the premium payments on the $2,000 loan of $1.10 per month. The judge found
that a new book was issued. Joseph R. Linehan at first so testified, but when shown the
book used for the $5,000 loan corrected himself saying, 'We used the same book. I'm
8
sorry.' The evidence does not show when and in what circumstances the entries of $2.75
per month for supposed premium on the new loan were made.
* * *
*356 The final decree is to be modified (a) to delete the finding of a contract; (b) to provide that
the plaintiff's claim for damages based on misrepresentations of the defendant is equal to and is
offset against the defendant's counterclaim under the note and mortgage and that the note and
mortgage are paid, cancelled, and discharged; and (c) to be consistent with the provisions of the
foregoing clause (b). As so modified it is affirmed. The plantiff shall have costs of appeal
So ordered
Elliott v. Great Nat’l Life Ins. Co.
611 S.W.2d 620 (Tex. 1981)
Supreme Court of Texas.
B. N. ELLIOTT, Petitioner,
v.
GREAT NATIONAL LIFE INSURANCE COMPANY, Respondent.
No. B-9194.
Jan. 14, 1981.
Rehearing Denied Feb. 18, 1981.
BARROW, Justice.
B. N. Elliott brought this suit to recover the sum of $12,500 remaining unpaid on an alleged
oral agreement of employment for a period of one year. Donald Spear, who was Senior VicePresident of Marketing for Great National Life Insurance Company, entered into the agreement with
Elliott. The question presented is whether Spear was authorized by Great National to make the
agreement. The trial court rendered *621 judgment on the jury verdict for Elliott. [FN1] The court
of civil appeals reversed this judgment and rendered a take-nothing judgment for Great National
after concluding that there was no evidence to support the jury finding as to Spear's authority. 592
S.W.2d 404. We reverse the judgment of the court of civil appeals and remand the cause to that
court for consideration of other points raised by Great National.
FN1. The jury found that on September 16, 1976, Spear and Elliott entered into an oral
agreement whereby Great National employed Elliott for a period of one year. The jury also
found that Spear was authorized by Great National to employ Elliott. Included in the
instruction with this issue was a definition of "apparent authority."
9
It is well settled that in order to determine whether there is "no evidence" to support the jury
finding as to Spear's authority, we must consider only the evidence and inferences from the evidence
which support the jury finding and disregard all evidence and inferences to the contrary. Stodghill, et
al v. Texas Empl. Ins. Ass'n, 582 S.W.2d 102 (Tex.1979); Dodd v. Twin City Fire Ins. Co., 545
S.W.2d 766 (Tex.1977). Upon considering the evidence in that light, we hold that the facts show
some evidence of Spear's apparent authority to offer a one year contract of employment to Elliott.
Great National was a Texas corporation which was wholly owned by US Life Corporation, a
New York-based corporation. Spear's primary responsibility at Great National was to add to the
field vice-president staff. Pursuant to this delegated responsibility, Spear, who was located in the
Dallas office, contacted Elliott in Atlanta, Georgia, and inquired as to his interest in a field vicepresident's position with Great National.
Elliott twice flew to Dallas to interview with Great National. He also flew to New York City
to attend a meeting, sponsored by Great National's parent company, of all the marketing people from
the parent company's subsidiaries. Elliott believed that he was attending the meeting in order to meet
the people who would make the decision as to his selection for a field vice-president's position.
Each one of these trips was pursuant to Spear's request and authorization. Great National paid for
each of the trips. It also paid Elliott one-twelfth of the agreed annual salary for each of the six
months Elliott worked for Great National.
During the series of interviews with Spear, Elliott requested that Great National allow him to
remain in Atlanta. Spear testified in this regard as follows:
"Very early in our conversation, he (Elliott) indicated that he would like to
remain there (Atlanta) ... and I spoke to my president about it and we declined to
agree that Nick should live there."
Elliott testified that he first knew he would have to relocate to Dallas when he reported to
work in the Dallas office on September 16, 1976. He testified as follows:
"Q. How did you find out, then, on September 16, that you did not have an agreement?
"A. Don (Spear) informed me at that time that we had not had any success at all in talking to New
York and getting them to agree to leaving me remain in Atlanta and that I would have to move to
Dallas."
The testimony of both Spear and Elliott provides evidence of a chain of communication
which facilitated Great National's selection of Elliott as a field vice-president. Spear was expressly
delegated to add employees such as Elliott. Spear and Elliott discussed the conditions of
employment, and then Spear solicited a decision from the home office. When the decision
concerning the conditions of employment was made, Spear communicated the decision to Elliott.
Great National did not limit the use of this chain of communication to a particular time or to
a particular condition of employment. In fact, Elliott testified that he did not at any time discuss the
terms of his employment with any employee of Great National other than Spear. It was this fact
which led Elliott to believe that Spear had the authority to offer Elliott a one year term of
employment:
10
*622 "Q. As a matter of fact, you testified in your deposition a year ago that you
knew during the time of these discussions that Mr. Spear did not have the
authority on behalf of Great National to guarantee you a one year term of
employment?
"A. At that time, I didn't think he had the authority, but on September the 16th, I
quickly determined that he did have the authority since he was the only person I
had had dealings with. I hadn't had any dealings with anyone else and all
arrangements were made through him."
In Chastain v. Cooper & Reed, 152 Tex. 322, 257 S.W.2d 422, 427 (Tex.1953), this Court
said:
"The doctrine of apparent authority is based on estoppel, and one seeking to
charge a principal through the apparent authority of an agent to bind the principal
must prove such conduct on the part of the principal as would lead a reasonably
prudent person, using diligence and discretion, to suppose that the agent has the
authority he purports to exercise...."
See also Douglass v. Panama, Inc., 504 S.W.2d 776 (Tex.1974).
Great National established a chain of communication by which it communicated with Elliott
through Spear. In so doing, Great National permitted Spear to hold himself out as having the
authority to convey Great National's offer of employment to Elliott, and therefore indicated to Elliott
that Spear had the authority to communicate that offer. In this situation, we hold that there was more
than a scintilla of evidence that Spear had the apparent authority to hire Elliott on behalf of Great
National for a period of one year. Therefore, the holding of the court of civil appeals that there was
no evidence to support the jury finding was erroneous. Martinez v. Delta Brands, Inc., 515 S.W.2d
263 (Tex.1974).
This error requires a reversal of the judgment of the court of civil appeals. Since Great
National's brief in the court of civil appeals contained points not considered by that court, including
factual points beyond this Court's jurisdiction, we remand the cause to the court of civil appeals.
Shriro Corp. v. Ward, 570 S.W.2d 395 (Tex.1978); Custom Leasing, Inc. v. Texas Bank & Tr. Co. of
Dallas, 491 S.W.2d 869 (Tex.1973).
The judgment of the court of civil appeals is reversed and the cause is remanded to that court.
11
Hoddeson v. Koos Bros.
47 N.J.Super. 224, 135 A.2d 702 (1957)
Robert HODDESON and Joan Hoddeson, Plaintiffs-Respondents,
v.
KOOS BROS., a New Jersey corporation, Defendant-Appellant.
No. A--487.
Superior Court of New Jersey.
Appellate Division.
Argued Sept. 30, 1957.
Decided Oct. 30, 1957.
The opinion of the court was delivered by
JAYNE, J.A.D.
The occurrence which engages our present attention is a little more than conventionally
unconventional in the common course of trade. Old questions appear in new styles. A digest of the
story told by Mrs. Hoddeson will be informative and perhaps admonitory to the unwary shopper.
The plaintiff Mrs. Hoddeson was acquainted with the spacious furniture store conducted by
the defendant, Koos Bros., a corporation, at No. 1859 St. George Avenue in the City of Rahway. On
a previous observational visit, her eyes had fallen upon certain articles of bedroom furniture which
she ardently desired to acquire for her home. It has been said that 'the sea hath bounds but deep
desire hath none.' Her sympathetic mother liberated her from the grasp of despair and bestowed
upon her a gift of $165 with which to consummate the purchase.
It was in the forenoon of August 22, 1956 that Mrs. Hoddeson, accompanied by her aunt and
four children, happily journeyed **704 from her home in South River to the defendant's store to
attain her objective. Upon entering, she was greeted by a tall man with dark hair frosted at *228 the
temples and clad in a light gray suit. He inquired if he could be of assistance, and she informed him
specifically of her mission. Whereupon he immediately guided her, her aunt, and the flock to the
mirror then on display and priced at $29 which Mrs. Hoddeson identified, and next to the location of
the designated bedroom furniture which she had described.
Upon confirming her selections the man withdrew from his pocket a small pad or paper upon
which he presumably recorded her order and calculated the total purchase price to be $168.50. Mrs.
Hoddeson handed to him the $168.50 in cash. He informed her the articles other than those on
display were not in stock, and that reproductions would upon notice be delivered to her in
12
September. Alas, she omitted to request from him a receipt for her cash disbursement. The
transaction consumed in time a period from 30 to 40 minutes.
Mrs. Hoddeson impatiently awaited the delivery of the articles of furniture, but a span of time
beyond the assured date of delivery elapsed, which motivated her to inquire of the defendant the
cause of the unexpected delay. Sorrowful, indeed, was she to learn from the defendant that its
records failed to disclose any such sale to her and any such monetary credit in payment.
Such were the essentialities of the narrative imparted to the judge and jury in the Union
County District Court, where Mrs. Hoddeson and her husband obtained a final judgment against the
defendant in reimbursement of her cash expenditure. The testimony of her aunt was corroborative of
that of Mrs. Hoddeson.
Although the amount of money involved is relatively inconsiderable, the defendant has
resolved to incur the expense of this appeal. This Division has heretofore had occasion to state that
justice is not qualified by the monetary importance of the controversy. Series Publishers, Inc. v.
Greene, 9 N.J.Super. 166, 75 A.2d 549 (App.Div.1950). Obviously, the endeavor of the defendant is
to elicit from us a precedential opinion concerning a merchant's liability in the exceptional *229
circumstances disclosed by the evidence to which we have already alluded, and by the
supplementary evidence to which we shall presently refer.
It eventuated that Mrs. Hoddeson and her aunt were subsequently unable Positively to
recognize among the defendant's regularly employed salesmen the individual with whom Mrs.
Hoddeson had arranged for the purchase, although when she and her aunt were afforded the
opportunities to gaze intently at one of the five salesmen assigned to that department of the store,
both indicated a resemblance of one of them to the purported salesman, but frankly acknowledged
the incertitude of their identification. The defendant's records revealed that the salesman bearing the
alleged resemblance was on vacation and hence presumably absent from the store during the week of
August 22, 1956.
As you will at this point surmise, the insistence of the defendant at the trial was that the
person who served Mrs. Hoddeson was an impostor deceitfully impersonating a salesman of the
defendant without the latter's knowledge.
It was additionally disclosed by the testimony that a relatively large number of salesmen
were employed at the defendant's store, and that since they were remunerated in part on a sales
commission basis, there existed considerable rivalry among them to serve incoming customers;
hence the improbability of the unnoticed intrusion of an impersonator.
Fortifying the defense, each of the five salesmen, but not every salesman, denied that he had
attended Mrs. Hoddeson on the stated occasion, and the defendant's comptroller **705 and credit
manager verified the absence in the store records of any notation of the alleged sale and of the
receipt of the stated cash payment.
The credibility of the testimony of both Mrs. Hoddeson and her aunt was thus shadowed.
The trial judge transmitted to the jury for determination the simple factual issue whether Mrs.
13
Hoddeson and her co-plaintiff had established by a preponderance of the credible evidence that the
$168.50 was paid in fact to an employee of the defendant; otherwise, the defendant should be
acquitted of liability.
*230 The jury resolved that controversial issue in favor of the plaintiffs. The defendant's
application for a new trial was denied by the trial judge who announced:
'It is my conclusion that the evidence of the circumstances proved by the plaintiff
warranted a finding by the jury that the person who received the money was an
employee of the defendant.'
Does it clearly and unequivocally appear that the action of the trial judge constituted a
manifest denial of justice under the law? Hartpence v. Grouleff, 15 N.J. 545, 549, 105 A.2d 514
(1954).
The ground now asserted on behalf of the defendant for a reversal of the judgment is that
there was a deficit of evidence to support the conclusion that a relationship of master and servant
existed between the man who served and received the money from Mrs. Hoddeson and the defendant
company.
There can be no doubt that the existence of the alleged relationship, or in the alternative an
estoppel by the defendant to deny its existence, was an essential element of the legal right of the
plaintiff, Mrs. Hoddeson, to recover her monetary disbursement from the company. Neither is it to
be doubted that such a relationship of agency, actual or apparent, can be proved by means of
circumstantial evidence.
We do not hastily yield to the temptation immediately to adopt the postulate that the person
who waited upon Mrs. Hoddeson was without question a humbugger unassociated with the
defendant. We recognize that the jurors, pursuant to the directions of the court, weighed on the
scales of reasonable probabilities the inferences anent that issue which were to them derivable from
the circumstantial evidence relating on the one hand to the described behavior and deportment of the
individual and on the other to the revelatory state of the defendant's records.
Perhaps in reality the jurors did not read the scales mistakenly, and so initially we pause to
examine the probative *231 range of the circumstantial evidence. True, in the present case there was
evidence that the person whose identity is undisclosed approached Mrs. Hoddeson and her aunt in
the store, publicly exhibiting the mannerisms of a salesman; inquired if he could be of service; upon
being informed of the type of the articles in which Mrs. Hoddeson was interested, he was not only
sufficiently acquainted with their description, but also where in the department they were
respectively on display, guiding them without hesitation to the location of the mirror and then to that
of the indicated bedroom furniture; he represented that those articles were not then available in
stock, which significantly the store records disclosed to be true; his prophetic representation
concerning their prospective arrival in stock proved to be prescient, unless he gleaned that
information from the price tag; he accurately calculated their true sales prices and openly received
the cash. Those activities precisely characteristic of the common experiences and practices in the
trade were conspicuously pursued in market overt during a period of 30 to 40 minutes.
14
In the consideration of the propriety of the defendant's motion for an involuntary dismissal of
the action, we are **706 not at liberty to suspect that the verified narrative of Mrs. Hoddeson,
corroborated by her aunt, was purely imaginative or artfully inventive, but rather to regard it as a
trustworthy revelation of the factual events to the extent of her knowledge. Gentile v. Public Service
Coordinated Transport, 12 N.J.Super. 45, 49, 78 A.2d 915 (App.Div.1951).
In the study of the circumstantial evidence, its perceptible legal deficiency and inadequacy
inhere in the limitations of its disclosures. Obviously it confines its information solely to the
activities of the supposed salesman. It does not embrace or, indeed, touch any manifestations
whatever emanating From the defendant tending to indicate Its conference of authority, actual or
apparent, upon the alleged salesman.
Where a party seeks to impose liability upon an alleged principal on a contract made by an
alleged agent, as here, the party must assume the obligation of proving *232 the agency relationship.
It is not the burden of the alleged principal to disprove it.
Concisely stated, the liability of a principal to third parties for the acts of an agent may be
shown by proof disclosing (1) express or real authority which has been definitely granted; (2)
implied authority, that is, to do all that is proper, customarily incidental and reasonably appropriate
to the exercise of the authority granted; and (3) apparent authority, such as where the principal by
words, conduct, or other indicative manifestations has 'held out' the person to be his agent.
Obviously the plaintiffs' evidence in the present action does not substantiate the existence of
any basic express authority or project any question implicating implied authority. The point here
debated is whether or not the evidence circumstantiates the presence of apparent authority, and it is
at this very point we come face to face with the general rule of law that the apparency and
appearance of authority must be shown to have been created by the manifestations of the alleged
principal, and not alone and solely by proof of those of the supposed agent. Assuredly the law
cannot permit apparent authority to be established by the mere proof that a mountebank in fact
exercised it.
* * *
Let us hypothesize for the purposes of our present comments that the acting salesman was not
in fact an employee *233 of the defendant, yet he behaved and deported himself during the stated
period in the business establishment of the defendant in the manner described by the evidence
adduced on behalf of the plaintiffs, would the defendant be immune as a matter of law from liability
for the plaintiffs' loss? The tincture of estoppel that gives color to instances of apparent authority
might in the law operate likewise to preclude a defendant's denial of liability. It matters little
whether for immediate purposes we entitle or characterize the principle of law in such cases as
'agency by estoppel' or 'a tortious dereliction of duty owed to an invited customer.' That which we
have in mind are the unique occurrences where solely through the lack of the proprietor's reasonable
surveillance and supervision an **707 impostor falsely impersonates in the place of business an
agent or servant of his. Certainly the proprietor's duty of care and precaution for the safety and
security of the customer encompasses more than the diligent observance and removal of banana
peels from the aisles. Broadly stated, the duty of the proprietor also encircles the exercise of
15
reasonable care and vigilance to protect the customer from loss occasioned by the deceptions of an
apparent salesman. The rule that those who bargain without inquiry with an apparent agent do so at
the risk and peril of an absence of the agent's authority has a patently impracticable application to the
customers who patronize our modern department stores. Vide, 2 C.J.S. Agency s 93, p. 1193.
Our concept of the modern law is that where a proprietor of a place of business by his
dereliction of duty enables one who is not his agent conspicuously to act as such and ostensibly to
transact the proprietor's business with a patron in the establishment, the appearances being of such a
character as to lead a person of ordinary prudence and circumspection to to believe that the impostor
was in truth the proprietor's agent, in such circumstances the law will not permit the proprietor
defensively to avail himself of the impostor's lack of authority and thus escape liability for the
consequential loss thereby sustained by the customer.
* * *
Let it not be inferred from our remarks that we have derived from the record before us a
conviction that the defendant in the present case was heedless of its duty, that Mrs. Hoddeson acted
with ordinary prudence, or that the factual circumstances were as represented at the trial.
In reversing the judgment under review, the interests of justice seem to us to recommend the
allowance of a new trial with the privilege accorded the plaintiffs to reconstruct the architecture of
their complaint appropriately to project for determination the justiciable issue to which, in view of
the inquisitive object of the present appeal, we have alluded. We do not in the exercise of our
modern *235 processes of appellate review permit the formalities of a pleading of themselves to
defeat the substantial opportunities of the parties. Cf. Marschalk v. Weber, 11 N.J.Super. 16, 26, 77
A.2d 505 (App.Div.1950), certification denied 6 N.J. 569, 89 A.2d 146 (1951).
Reversed and new trial allowed.
Rowen & Blair El. Co. v. Flushing Operating Corp.
66 Mich.App. 480, 239 N.W.2d 633 (1976)
ROWEN & BLAIR ELECTRIC COMPANY, a Michigan Corporation, PlaintiffAppellant,
v.
FLUSHING OPERATING CORPORATION, a New York Corporation, et al., DefendantsAppellees.
Docket No. 22011.
Court of Appeals of Michigan.
Jan. 7, 1976.
16
Released for Publication March 23, 1976.
Leave to Appeal Granted April 23, 1976.
KAUFMAN, Judge.
Plaintiff appeals a decision of the Kalamazoo County Circuit Court, which, following a
bench trial, refused to impose a mechanics' lien on a building owned by defendant Flushing
Operating Corporation (Flushing). We affirm.
The building in question was leased by Flushing *482 to Dutch Treat Bakers, Inc. (Dutch
Treat). Dutch Treat desired to expand its operations by acquiring the property but could not finance
the acquisition. As a result, Dutch Treat entered into negotiations with Flushing which decided to
purchase the building and its plot of land and lease it to Dutch Treat. Flushing leased the realty to
Dutch Treat on July 2, 1969, for a term of ten years, commencing October 1, 1969. During
negotiations, Flushing and Dutch Treat determined that approximately $45,000 would be needed to
renovate the building to serve as a wholesale bakery. As a result, the lease contained a provision for
leasehold improvements:
'The landlord has agreed to expend the sum of forty-five thousand dollars
($45,000.00) for improvements to the leased property and for replacement of
fixtures as may be required. The alterations, additions and improvements as
made with the subject $45,000.00 shall be described in detail by the tenant and a
list thereof attached to and made a part of this lease agreement as an exhibit
hereto. Any alterations, additions and improvements made, whether from the
funds advanced by the landlord or paid for by the tenant, as well as any fixtures,
shall immediately become the property of the landlord and at the end or other
termination of this lease shall be surrendered to the landlord, with the exception
that the moveable personal property and moveable trade fixtures put in by the
tenant at the tenant's expense may be removed on or before the expiration or
termination of this lease.'
At trial, the testimony presented indicated that, at the time of signing, figures were attached
to the lease estimating future repairs to be; structural, $30,000; electrical, $10,000; miscellaneous,
$5,000. The list was apparently lost and could not be produced at trial.
*483 Plaintiff, one of a number of contractors hired by Dutch Treat, pursuant to an oral agreement
with Dutch Treat, began electrical work on the building early in July, 1969. A letter agreement
embodying the oral terms was prepared by plaintiff and sent to Dutch Treat on October 9, 1969. It
was not signed until April 6, 1970. In the meantime, Dutch Treat was making progress payments to
plaintiff on a 'cost-plus' basis. Dutch Treat sent plaintiff's first invoice to Flushing which issues a
check for $7,040.35 payable to plaintiff and Dutch Treat. This check was endorsed by Dutch Treat
and turned over to plaintiff.
17
This was the first time that plaintiff had any knowledge of or contact with Flushing. **636
Plaintiff's employees noted Flushing's check but did not attempt to ascertain Flushing's position.
They assumed that Dutch Treat owned the building.
On December 23, 1969, Flushing sent its last check for leasehold improvements to Dutch
Treat because the $45,000 contractual limit had been reached through progress payments to plaintiff
and the other contractors. At that time, Dutch Treat was behind in its rental payments, and Flushing,
by applying the arrears to the rental payment account, used up the remainder of the account. Dutch
Treat itself later made two $5,000 payments to plaintiff on March 30 and May 13, 1970.
On May 27, because of a growing indebtedness to plaintiff and the resultant pressure, officers
of Dutch Treat signed a 9 per cent demand note for $40,872.48, the amount of the debt. On May 20,
plaintiff had also filed a statement of account and lien with the Register of Deeds. Both Flushing
and Dutch Treat were named but no notice was served on Flushing within the 10-day period
prescribed by *484 M.C.L.A. s 570.6; M.S.A. s 26.286. Nor had plaintiff served the requisite notice
of intention to claim a lien on Flushing within 90 days of the first furnishing of labor, M.C.L.A. s
570.1; M.S.A. s 26.281.
Plaintiff completed work on May 13, 1971, and timely filed the requisite statement with the
register of deeds to establish a mechanics' lien against the property occupied by Dutch Treat.
Plaintiff claimed that $39,033.50 remained unpaid. A suit to foreclose the lien was begun on May 3,
1971. After this Court reversed a summary judgment for defendant, Rowen nd Blair Electric Co. v.
Flushing Operating Corp., 49 Mich.App. 89, 211 N.W.2d 527 (1973), a bench trial was held.
The trial court held that plaintiff was entitled to judgment against Dutch Treat for the full
amount of the May, 1970, promissory note plus interest. However, after the suit had commenced
Dutch Treat had gone bankrupt and had been liquidated. Thus, the crucial issue was the validity of
plaintiff's lien against the building, still owned by Flushing. The building was then empty because
several creditors had repossessed Dutch Treat's machinery.
The trial court held that the lien was valid against Flushing. It held that plaintiff's failure to
give statutory notice to Flushing was not fatal because it found an agency relationship to exist
between Dutch Treat and Flushing. Notice to Dutch Treat, the agent, was held to provide notice to
Flushing, the undisclosed principal. Merithew v. Bennett, 313 Mich. 189, 193, 20 N.W.2d 860
(1945). The court also held that no apparent authority was present.
However, Flushing's liability was held to be limited to the extent of the authority given to
Dutch Treat. The court held that such authority *485 was limited to $10,000. This was the amount
allegedly specified for electrical repairs on the Flushing-Dutch Treat lease. Plaintiff had already
been paid $17,040.35, an amount in excess of this limit. The court further held that plaintiff had
failed to carry the burden of proof which required plaintiff to demonstrate that it was owed money
for work other than the electrical job.
On appeal, plaintiff raises two claims of error:
* * *
18
Defendant Flushing contends on appeal that the trial court's finding of agency was erroneous.
Flushing's claim, however, was not properly raised by a cross-appeal, GCR 1963, 807.1, and we do
not consider it.
* * *
Although we have held that the trial court was in error in requiring enhancement, we affirm
its decision because of our holding on plaintiff's second appellate issue. The trial court found an
agency relationship between Flushing and Dutch Treat. It held that Dutch Treat's authority to
contract with plaintiff was limited to $10,000.
In this case Dutch Treat was acting as a special agent to an undisclosed principal. A special
agent is 'an agent authorized to conduct a single transaction or a series of transactions not involving
continuity of service'. Restatement of Agency 2d, s 3, p. 15. A special agent can bind an
undisclosedprincipal *490 only with contracts made within the scope of his authority. Restatement
of Agency 2d, s 195A, p. 434. See also Saginaw, T. & H.R. Co. v. Chappell, 56 Mich. 190, 22 N.W.
278 (1885).
**639 The $10,000 figure was the sum estimated by Flushing and Dutch Treat as the amount
required for electrical work. We do not agree that this was the correct limitation on Dutch Treat's
agency. This sum was only an estimate as to how much electrical work might be done. It was
apparently appended to the contract as an exhibit pursuant to a contract clause. That clause,
however, required that
'The alterations, additions and improvements As made with the subject $45,000
shall be described in detail by the tenant and a list thereof attached to and made a
part of this lease agreement as an exhibit hereto.' (Emphasis supplied.)
The $10,000 was only an estimate, not a statement of an amount actually expended or an
improvement actually made.
We find, instead, that the agency was limited to an expenditure of $45,000 for all
improvements, alterations and additions. This was the figure negotiated by the parties to the lease
and specifically made part of the lease. Before this amount was reached plaintiff was paid with a
check from Flushing. After $45,000 was expended, Dutch Treat itself paid plaintiff $10,000. A
mechanics' lien is based entirely on the contract between the parties. Sewell v. Nu Markets Inc., 353
Mich. 553, 91 N.W.2d 861 (1958). As principal and lessor, defendant Flushing's lien liability on the
contract between lessee Dutch Treat and plaintiff is limited to the portion made by Dutch Treat
within the *491 scope of its agency. The Restatement of Agency 2d, s 195A, provides that:
'A special agent for an undisclosed principal has no power to bind his principal
by contracts or conveyances which he is not authorized to make unless:
(a) the agent's only departure from his authority is
(i) in not disclosing his principal, or
(ii) in having an improper motive, or
(iii) in being negligent in determining the facts upon which his authority is based,
or
19
(iv) in making misrepresentations; or
(b) the agent is given possession of goods or commercial documents with
authority to deal with them.'
In the instant case, Dutch Treat's actions do not fall within either of the exceptions. The
agent's departure from authority here would have been exceeding the monetary limit of that authority
and not disclosing the principal. Plaintiff cannot bind defendant Flushing beyond the authority
granted by Flushing to Dutch Treat. This authority expired on December 23, 1969, when the $45,000
limit was surpassed. The debts claimed by plaintiff in the instant action arose after that date.
We recognize that this is an unfortunate case where, through no fault of its own, either the
plaintiff or the defendant will be subject to a monetary loss. Because of Dutch Treat's bankruptcy,
plaintiff's sole remedy has become the mechanics' lien. That lien is, however, an extraordinary
remedy, one designed as an alternative to a suit for damages and one to be applied narrowly.
Additionally, plaintiff had a demand note from Dutch Treat but failed to negotiate it. These facts
present an apparent clash between the purposes of the mechanics' lien law and principles of agency
law. This is not a case where defendant used an *492 agent in an attempt to circumvent the lien law.
If it were, we would have no trouble applying the lien law. See Merithew v. Bennett, 313 Mich.
189, 20 N.W.2d 860 (1945).
Because the lien is completely dependent on the underlying contract, plaintiff unfortunately
cannot recover from defendant. The contract was a cost-plus agreement, one to be paid as the work
progressed. It was not a lump sum payment. Apparently, the other contractors were paid on a
similar basis. Defendant carefully restricted Dutch Treat to $45,000 for leasehold improvements. As
such, once this figure was surpassed, any liability for paying any of the contractors fell to Dutch
Treat.
**640 Affirmed. No costs, neither party having prevailed in full.
Perkins v. Rich
415 N.E.2d 895
Appeals Court of Massachusetts, Plymouth.
Jane H. PERKINS et al [FN1]
FN1. The named plaintiff and others are elected members and members ex officio of the
parish committee of the First Parish Unitarian Church of East Bridgewater.
v.
Paul J. RICH et al; [* * *]
20
***
Argued Nov. 6, 1980.
Decided Feb. 4, 1981.
Before BROWN, DREBEN and NOLAN, JJ.
BROWN, Judge.
This action was brought by members of the parish committee (Committee) of the First Parish
Unitarian Church of East Bridgewater (Church) who sought the appointment of a temporary receiver
to determine the financial status of the Church, to administer certain Church property and to manage
certain Church activities. A temporary receiver was appointed on October 28, 1977, and a
temporary injunction issued against all Church creditors barring them from prosecuting any claims.
The Committee brought this action because of transactions undertaken by the Church's
minister, Paul John Rich, who, along with the Attorney General, [* * *] was named a codefendant.
Two holders of mortgages of Church property, Bay State Federal Savings and Loan Association
(Bay State) and Shawmut First County Bank, N.A. (Shawmut), intervened. The case was referred to
a master on January 9, 1978, for the sole purpose of determining the validity of the mortgages to
those banks by instruments which Rich executed on behalf of the Church.[* * *] On January 29,
1979, the master filed a report concluding that the mortgages were valid. On May 8, 1979, a judge
of the Superior Court adopted the master's report in its entirety and entered judgment for Shawmut
and Bay State. [* * *] The plaintiffs appeal from that judgment.
We derive our facts from the master's subsidiary findings,[FN7] which "are binding upon us
unless they are clearly erroneous, mutually inconsistent, contradictory or vitiated in view of the
controlling law." John F. Miller Co. v. George Fichera Constr. Corp., 7 Mass.App. ---, --- - --[FNa], 388 N.E.2d 1201 (1979) and cases cited. See Mass.R.Civ.P. 53(e)(2), 365 Mass. 820 (1974).
The Church, a religious association founded in 1723 by St. 1723, c. 350, functioned until the mid
1960's with a relatively small membership and budget. Its by-laws, as amended in 1960, provide
that a parish committee be in "general charge of all business affairs ... and property" of the
Church.[FN8]
FN7. At the request of the parties the master made 259 special findings of fact, which were
filed along with his report. The evidence is not reported.
FNa. Mass.App.Ct.Adv.Sh. (1979) 843, 844-845.
FN8. The by-laws also provide for a finance committee to supervise the Church's
endowment, trusts and permanently invested funds.
In 1962, the Church hired defendant Rich to be its minister at a small salary. Rich initially
performed his ministerial duties without controversy.
During the mid 1960's, possibly because of "psychological traumatization by the Vietnam
21
War," Rich's personality as well as his perceived role in the Church underwent a significant change.
Rich initiated a highly publicized anti- war ministry. With Rich at the forefront, the Church
expanded from a membership of twelve families and a budget of $5,000 to a membership of over
four hundred families. By 1965, Rich began to assume responsibility for the Church's financial
affairs and, without formal authorization from the Committee or the Church membership, borrowed
considerable amounts of money for the renovation and improvement of Church property as well as
the acquisition of other property.[FN9] By 1969, Rich had assumed complete control of the
Church's business and financial affairs. The Committee had ceased to meet after 1968, and "it made
no effort to continue its former role as the business center of the Church." Moreover, no annual
meeting of the Church membership occurred after 1969. Rich became, in effect, the sole operating
officer, holding himself out as president and treasurer as well as minister. Under his direction, the
Church began to embark on a new "community loosely modeled on
Sturbridge/Williamsburg/Strawberry Bank concept," which would feature museums, galleries and
other exhibits. The project was to be financed by the profits of a proposed large scale elderly
housing development, which in turn was to be financed primarily from Federal funds. Although
Rich and his family contributed over $100,000 to the Church, the program relied heavily on bank
loans such as the three mortgage notes in issue here.[FN10] By 1973, expenditures for construction
on Church property had amounted to over $175,000. The work included large scale construction
obvious to all Church members such as: placement of a railroad car adjacent to the Church; interior
renovation; extensive landscaping; two swimming pools, carpentry work, an art gallery and sculpture
in the Church common; and construction of parking lots.
FN9. In 1965, the Church borrowed $78,000 from Plymouth-Home National Bank, a loan
which was later guaranteed by the entire parish committee. In June, 1969, Rich, as president
and treasurer, obtained a $100,000 loan from Shawmut on behalf of the Church, $78,000 of
which was used to repay the outstanding Plymouth-Home National Bank loan. This loan,
which has been extended or refinanced at least twenty-five times, is not involved in the
present dispute.
FN10. Rich negotiated these mortgages on behalf of the Church in his capacity as president,
treasurer and minister. Two mortgages were given to Bay State on October 18, 1972, and
April 20, 1973, respectively, and one to Shawmut dated November 5, 1975.
The proposed community, however, ran into financial difficulties. Sewerage problems
rendered the elderly housing project unbuildable, which in turn led to the unavailability of Federal
funds. As other avenues of financing could not match the anticipated profits of the housing
development, construction of the "new community" was thereby forestalled.
No action was taken by the Church membership until the summer of 1977, when it became
apparent that the mortgage notes were in default. A new parish committee and finance committee
were elected, and this action ensued. The Church claims that the mortgages are invalid because they
were given without authorization from the Committee.
Similar to most of the other transactions negotiated during Rich's tenure, the mortgages given
to Bay State and Shawmut were signed by Rich on behalf of the Church in his capacity as president
and treasurer. Each bank was given a previously recorded document which purportedly established
22
his authority to act on behalf of the "Church corporation." [FN11] The master found, however, that
the banks could not in good faith rely on these documents to establish Rich's authority. Although the
Church was found to be a de facto corporation, and Rich its de facto president and treasurer, Rich's
lack of authority should have been apparent to the banks due to irregularities on the face of each
document.[FN12] These irregularities created a duty upon the banks to inquire further as to Rich's
authority, an investigation which would have revealed the true Church structure. The master further
found that this would have saved the day for the Church but for the fact that reasonable and prudent
inquiry by the Church would have brought about discovery of the mortgages. The Church's failure
to assert its rights, once put on notice of unusually large expenditures, constituted ratification of
Rich's actions.[FN13]
FN11. Bay State was given the document referred to as the "Mosher Certificate," as it was
signed by one "Arthur Mosher, Clerk of Trustees."
Shawmut was given the document referred to as the "Thayer Certificate," as it was attested to
by "Ruth Churchill Thayer, Clerk and Secretary of Corporation."
FN12. The reference in the Mosher certificate to a vote of the trustees authorizing Rich "on
behalf of the Church ... to sign and execute any notes and mortgages necessary" for
mortgaging Church property was found to be incomplete on its face, as it was not apparent
where the "trustees" fit into the Church structure. The master found that an investigation
would have disclosed that there were no trustees in the church structure.
The statement in the Thayer certificate (given to Shawmut) that Rich was "trustee" of the
Church's "funds, properties, real estate ... and other holdings" was found to be inconsistent
with the banks' own title reports which established the Church as legal owner. A simple
business letter, the master found, could have clarified this apparent inconsistency.
FN13. The master also found the Church's inaction constituted estoppel, laches and
abandonment.
The Committee (and the Attorney General) filed numerous objections to the master's report
whereas the banks merely moved to have the objections struck and the report adopted in its entirety.
In these circumstances, the only issue before us in this appeal is whether the Committee's inaction
amounted to ratification.[FN14]
FN14. The master made various findings concerning Rich's lack of authority which are now
contested on appeal by the banks. One of the contested findings is that the banks could not
in good faith rely on the recorded certificates purportedly establishing Rich's authority. See
G.L. c. 156B, s 115. The banks, however, took no action either before the master or the trial
court to contest this finding (or any finding of the master), nor did they move to recommit for
additional findings. See Mass.R.Civ.P. 53(e)(2), and Rule 49(7) of the Superior Court
(1967). Although arguably a conclusion of law * * *, and thus normally open for our
consideration on appeal, the matter is not properly before us. * * *
The Committee claims that it did not know of the existence of the mortgages and thus that its
failure to repudiate the mortgages resulted not from a ratification of the transactions, but from
ignorance of essential facts. Generally, in order to establish ratification of unauthorized acts of an
23
agent, a principal must have "full knowledge of all material facts." Combs v. Scott, 12 Allen 493,
496, 94 Mass. 493 (1866). * * * Ignorance of such facts will not lead to liability. Combs v. Scott,
supra 12 Allen at 496, 94 Mass. 493. However, a qualification to this rule is that one cannot
"purposefully shut his eyes to means of information within his own possession and control" (id. at
497), having only that knowledge "which he cares to have." Kelley v. Newburyport & Amesbury
Horse R.R., 141 Mass. 496, 498-499, 6 N.E. 745 (1886). * * * This is especially true of the
Committee, which functioned as the "business center" of the Church and had a duty to keep itself
informed of Church business. * * *
Further, as found by the master, the Committee was not totally ignorant of Rich's actions. * *
*. From the many indicia of the radical physical and structural changes to the church and its
surroundings, it should have been obvious to the Church that "something (was) afoot." The very
nature of the construction and renovation indicated that large expenditures were being made.
Although Rich was far from candid in his disclosures, he did inform Church members of various
projects at Church events and through annual reports and publications. The Committee, whose
responsibility was to approve payment of all bills, and Church members in general, deliberately
ignored these facts. * * * By not asking the simple question "What is going on?" as suggested by
the master, the Committee assumed the risk of what its investigation might have disclosed. [FN15]
See Restatement (Second) of Agency s 91, Comment e (1958).
FN15. The master found that an inquiry as to Rich's actions should have commenced at least
by May 4, 1974, the date when the railroad car was put in place.
We thus conclude that the Committee's knowledge of substantial and costly physical changes
at the Church should have provoked an investigation by the Committee which would have led to the
discovery of the mortgages. In these circumstances the Committee's failure to act "will be deemed to
constitute actual knowledge." Ingalls Iron Works Co. v. Ingalls, 177 F.Supp. 151, 162
(N.D.Ala.1959), aff'd. 280 F.2d 423 (5th Cir. 1960). * * * By failing to disavow the mortgages, the
Church ratified the transactions, a ratification which may be inferred without a vote by the
Committee. * * *
Accordingly, the mortgages are valid and binding upon the Church, and the judgments of the
Superior Court must be affirmed.
So ordered.
Demian, Ltd. v. Charles A. Frank Assoc.
671 F.2d 720 (2nd Cir. 1981)
United States Court of Appeals,
Second Circuit.
24
DEMIAN, LTD., Plaintiff-Appellant,
v.
CHARLES A. FRANK ASSOCIATES, Charles A. Frank and Jaguar International, Inc.,
Defendants-Appellees.
No. 113, Docket 81-7392.
Argued Oct. 23, 1981.
Decided Feb. 4, 1982.
MANSFIELD, Circuit Judge:
In this diversity suit for damages for breach of a contract for services in the importation of
men's leather and suede garments, plaintiff-appellant, Demian, Ltd. ("Demian"), the purchaser,
appeals from a judgment of the Southern District of New York entered by Judge Charles L. Brieant
in favor of the defendants Charles A. Frank Associates, Charles A. Frank and Jaguar International,
Inc., New York residents and business organizations (herein collectively referred to as "Frank"),
dismissing the complaint after a non-jury trial. We remand the case to the district court for further
findings of fact, affirm the dismissal of Frank's counterclaim for commissions, and deny Frank's
request for an award of costs, damages, and expenses, including attorneys' fees.
At all pertinent times Demian, a Pennsylvania corporation, was an importer of high grade
men's leather garments for sale in the United States and Frank was a service organization with
business acquaintances in the Orient. For a commission paid by American importers, Frank would
locate manufacturers or sources of supply in the Far East and make arrangements for the
manufacture of the goods in the Orient and their importation into the United States. To facilitate
importation into the United States of goods made in Korea, Frank entered into an arrangement with
K. C. Sun of Da Chong Hong Trading Co., Ltd. ("Sun") in Korea, whereby, for 50% of Frank's
commission received for its services, Sun would locate Korean manufacturers and, following Frank's
instructions, do anything further required to effectuate the manufacture, sale and importation of
goods purchased by Frank's American clients. One of these clients was Demian.
After approving samples of leather jackets to be manufactured in Korea by Koreanna
Moulson, Ltd., a manufacturer located by Frank and Sun, who submitted the samples for
consideration, Demian placed two *722 orders with Sun for the purchase of two styles meeting the
specifications of the samples. Pursuant to arrangements made by Frank, Demian forwarded to Korea
letters of credit in favor of Koreanna, to be honored upon presentation of a certificate by Sun that it
had inspected the shipment of the leather jackets made by Koreanna and found them to be of
merchantable quality, meeting the sample specifications.
Unfortunately Sun did not properly perform its inspection duties, issuing a certificate that
released the purchase price to Koreanna against jackets that did not meet the specifications. In June
1980 Demian brought the present suit against Frank for breach of contract, alleging that in return for
commission payments Frank had agreed to:
25
"(A) Assist plaintiff in the designing of leather jackets which were to be
manufactured in the Republic of Korea;
"(B) Arrange for the manufacture of said jackets in the Republic of Korea;
"(C) Inspect said jackets upon completion of the manufacturing to insure that
they complied with the standards and specifications required by plaintiff, and in
accordance with the terms of a Letter of Credit opened by plaintiff.
"(D) Perform all services necessary to accomplish the importation of the jackets
into the United States."
Frank entered a general denial and counterclaimed for a 5% commission "for his services."
At trial Michael Driban, President and owner of Demian, testified that, after Charles A. Frank
had described his qualifications and his extensive experience in locating Oriental manufacturers,
arranging for their manufacture of goods and importing garments into the United States, they entered
into an arrangement under which Frank was to "oversee any program we would enter from start to
finish." Frank stated:
"Q What do you mean, from start to finish?
"A From the placing of the orders to making sure that the work was done in time,
to make sure the garments were packed in time, that every step of the production
process was followed through, that the skins arrived in time to be cut, that the
cutting was done in time, that the sewing was done in time, that the skins, when
they arrived, were first quality, that when all was said and one (sic), the garments
were inspected. Evenness of color, quality of skin, sewing details, etc., were
packed, the documents were completed in a satisfactory manner, and that it went
out on a ship that would ultimately get to us in time to permit us timely deliveries
to our customer, which was our responsibility."
With respect to responsibility for inspection of goods in Korea before release of Demian's
letter of credit, Driban testified that Frank advised that full responsibility would be assumed by him
or, if he was not in Korea at the time of shipment, by his "man in Korea," K. C. Sun, whom Driban
had never met. On cross-examination by Mr. Frank, Driban testified:
"Q Did I ever represent to you as a guarantor of the factory"THE COURT: He said yes, you sure did. Why do you keep fooling around?
Answer the question.
"A You told me you would be personally or someone from your office would be
responsible for the final inspection of those garments. Without a certificate
certifying to that effect payment would not be made to the factory."
Frank's defense was that he acted merely as a broker, without assuming responsibility other
than to bring the principals together. On his deposition, however, he testified that he entered into a
relationship with Mr. Sun whereby Sun would perform numerous services for him in Korea,
including location of factories, help in obtaining clients, manufacture of garments, and inspection,
and that "(i)f there were requirements that a particular client had that I could not do for the clients
because I was not there, he would do it." (App. 45A). Frank testified: "If I gave him instructions, he
following them out.... Mr. Sun was to execute what I asked him to execute." (App. 47A).
26
*723 At the close of the trial Judge Brieant, although he found that Frank's "services were totally
useless" and he had been a malefactor who had engaged in "unconscionable" conduct, concluded:
"The most the proof shows, an agent was authorized by the principal to delegate
a sub-agent and in the absence of some knowledge of it at the time of appointing
Sun, that Sun was an improper person to be appointed, there is no liability, no
vicarious liability when a sub-agent with the permission of the principal is
appointed by an agent to work for the principal, and that is really what happened
here with K. C. Sun.
"... there is no joint venture because, in order to have a joint venture, there must
be an agreement proved to share losses and profits.
"... When two persons could broker in effect like that, neither one becomes the
agent for the other, and Mr. Frank does not, by the facts of this case, become the
person vicariously liable for the sins and omissions or defaults or delicts (sic) of
K. C. Sun, and that is what is sought to be shown here in this case." (App. 37A38A).
Accordingly the court entered judgment dismissing the complaint. Finding that Frank's
services were worthless, he also dismissed its counterclaim for commissions, without costs to either
side.
DISCUSSION
We do not question the district court's finding that no joint venture existed between the
parties since there is no evidence of profit or loss sharing between them, which is essential to
recovery on a joint venture theory. Steinbeck v. Gerosa, 4 N.Y.2d 302, 317, 175 N.Y.S.2d 1, 13,
151 N.E.2d 170 (1958); Backus Plywood Corp. v. Commercial Decal, Inc., 208 F.Supp. 687, 691
(S.D.N.Y.1962); Allen Chase & Co. v. White, Weld & Co., 311 F.Supp. 1253, 1259
(S.D.N.Y.1970); Jasper v. Bernstein, 259 App.Div. 638, 639-40, 20 N.Y.S.2d 362, 363-64 (1st Dept.
1940); Gordon Co. Inc. v. Garcia Sugars Corp., 241 App.Div. 155, 156, 271 N.Y.S. 303 (1st Dept.
1934). Under the law of agency Frank's liability to Demian for Sun's improper certification turns on
whether Sun was employed as Frank's subagent to perform his duties as Demian's agent or as an
independent agent of Demian for which it would assume responsibility. If Sun was Frank's
subagent, Frank would be liable to Demian for the subagent's conduct. 2 Restatement (Second) of
Agency, s 406.
"s 406. Liability for Conduct of Subagent
"Unless otherwise agreed, an agent is responsible to the principal for the conduct
of a subservant or other subagent with reference to the principal's affairs
entrusted to the subagent, as the agent is for his own conduct; and as to other
matters, as a principal is for the conduct of a servant or other agent." Id. 252.
On the other hand, if Sun was not a subagent but a separate agent acting solely for Demian,
Frank would not be liable. Restatement (Second) of Agency, ss 5, 405.
s 405. Liability for Conduct of Other Agents
27
"(1) Except as stated in Subsections (2) and (3), an agent is not subject to liability
to the principal for the conduct of other agents who are not his subagents.
"(2) An agent is subject to liability to the principal if, having a duty to appoint or
to supervise other agents, he has violated his duty through lack of care or
otherwise in the appointment or supervision, and harm thereby results to the
principal in a foreseeable manner. He is also subject to liability if he directs,
permits, or otherwise takes part in the improper conduct of other agents.
"(3) An agent is subject to liability to a principal for the failure of another agent
to perform a service which he and such other have jointly contracted to perform
for the principal." Id. 251.
Here we need not speculate as to the nature of the legal theory asserted by Demian as the
basis for its claim against Frank. It does not ask the court to infer from the circumstances that Sun
must have *724 been Frank's subagent rather than an independent agent procured by it as a broker.
It claims that Frank breached an express agreement with it to inspect the jackets upon completion of
the manufacture "to insure that they complied with the standards and specifications required by
plaintiff, and in accordance with the terms of the Letter of Credit opened by plaintiff." (Compl. Par.
6(C)). Under such an agreement Frank would be obligated either personally to inspect the
manufactured jackets or to see to it that they were properly inspected by Sun and to issue a
certificate or have Sun do so only if they conformed to the samples approved by Demian, which they
admittedly did not. If Frank failed to perform these promises and allowed substandard jackets to be
certified, he would under elementary principles of contract law be liable in damages to Demian
regardless of any joint venture or subagency theory of liability.
The district court does not appear to have considered this issue of whether Frank expressly
entered into an agreement with Demian to inspect properly and made no findings with respect to
such an agreement. If there were no supporting evidence, we might let stand the dismissal of this
claim for breach of an express contract. But here the record contains an abundance of testimony by
Driban to the effect that Frank agreed to insure that Sun, whom Frank described as his "man in
Korea" who followed Frank's "instructions" and who would "execute what I asked him to execute,"
would make a proper inspection and issue a certificate only if the jackets conformed to Demian's
specifications. Nor does Judge Brieant appear to have discredited Driban as a witness. Indeed at
one point he appears to have accepted Driban's testimony that Frank represented himself to be a
"guarantor." Judge Brieant's characterization of Mr. Frank, on the other hand, indicates some doubt
as to his reliability. The finding that Frank's services were worthless and in violation of his
contractual obligations, disentitling him to a commission, is supported by the record and not clearly
erroneous.
In view of these circumstances we vacate the judgment dismissing the complaint and remand
the case to the district court for further proceedings, findings, and decision. We affirm Judge
Brieant's denial of Frank's counterclaim and deny as frivolous Frank's claims for damages, costs, and
attorney's fees under 28 U.S.C. ss 1912, 1927 and Fed.R.App.P. 38. Costs are awarded to Demian.
28
Ell Dee Clothing Co. v. Marsh
247 N.Y. 392, 160 N.E. 651 (1928)
Court of Appeals of New York.
ELL DEE CLOTHING CO., Inc.,
v.
MARSH.
Feb. 14, 1928.
ANDREWS, J.
In November, 1923, the receiver of the plaintiff applied to his broker for a policy of burglary
insurance to cover the stock of goods which had come into his possession. In turn, the broker passed
on the application to another firm of brokers. They endeavored to place the insurance, and finally
succeeded in making some arrangement with the defendant.
Mr. Marsh was the agent in New York of the 'London Lloyds.' Precisely what were his
powers is not clear; but, when the application was handed to him, it was understood by all parties
that a 'Lloyds' policy was to be received.
The application had been made out upon a form appropriate to marine insurance. On the
back were printed the clauses relating to that class of risk and immaterial here. It was headed,
'Underwriters' and *395 Brokers' Emergency Agreement,' and the form was stated to be 'Provisional.'
The application was said to be made by the brokers for the receiver of the Ell Dee clothing store.
The amount of the insurance was to be $15,000. It was to protect against burglary for 60 days, 'at
and from 189 Stanton street, New York' (where in fact the goods were located), and then follows:
'Amount under deck, $101.50.' That sum was in fact the agreed premium for the policy. Then
follow the words 'Binding' and the signature 'Marsh--for Company.'
This paper was delivered to the receiver. He drew a check for $101.50, which was received
by the negotiating brokers. On December 6 there was a burglary at 189 Stanton street; clothing in
the receiver's hands being taken. Shortly thereafter Marsh was notified of the burglary, and about
January 21 he received proofs of loss made out to 'F. A. Marsh, Representing Lloyds.'
No formal policy was ever executed by any one, and the plaintiff, having been vested with all
the rights of the receiver in the subject-matter upon his discharge, brings this action to recover the
loss directly of the defendant. It claims that he is personally liable upon the so-called 'binder'
executed by him.
Some preliminary matters must be considered before we reach the more important question
involved in this case. It is said that the plaintiff has failed to show that Mr. Marsh ever received the
check for the premium. It is true. But, if the defendant considered it important and intended to rely
on a missing bit of proof that might have been supplied, he should have called attention to the defect.
29
No reference to it was made on the trial. It is said the goods supposed to be covered by the binder
are not described. But the application is against burglary made by the receiver of the Ell Dee
Clothing store at 189 Stanton street. This would seem to cover the personal property, held by Mr.
Derby as receiver of the corporation, at that place. It is said there is here no *396 complete contract.
The binder is intended to be superseded by a formal policy. Such a policy contains conditions to be
performed by the assured. In its absence the nature of the risk assumed is not shown. So there is a
failure to prove a meeting of the minds of the parties and a contract. A 'binder' is a present contract
of insurance, issued to protect the assured temporarily while the assurer investigates the risk and
determines whether or not to issue a permanent policy. Imported into it, however, are all the
obligations 'according to the terms of the policy in ordinary use by the company.' Sherri v. National
Surety Co., 243 N. Y. 266, 153 N. E. 70. If the form of the **653 policy is fixed by the state, then
its provisions are held to be included in any binder. If there is proof that the company has adopted
any particular and customary form, the same thing is true. But it is for the company to show this fact.
In the absence of legislative direction, it may use such a policy as it chooses. It may adopt many or
few conditions. In the absence of all testimony, there is no presumption that in its policy it has
inserted any conditions precedent. If it has adopted conditions subsequent, it is for it to show that
fact and that they have been broken by the assured. There is no reason why it may not simply agree
to indemnify for the loss by burglary of certain goods in return for a consideration. So whether the
binder is to be interpreted by itself or with the addition of implied conditions, the minds of the
parties meet. And in the absence of state regulations, it is for the assurer to show that conditions are
implied and what they are. Such seems to be intimated in Underwood v. Greenwich Ins. Co., 161 N.
Y. 413, 55 N. E. 936. There may be an exception to this rule. Some conditions may be so well
understood as universally entering into insurance contracts, such as the necessity of notice and
proofs of loss given to the insurer within a reasonable time, that the courts will imply them even
though the binder be silent. They must, however, be few.
*397 We come, therefore, to the substantial question which we must determine. The general rule
may be stated that, where one party to a written contract is known to the other to be in fact acting as
agent for some known principal, he does not become personally liable whether he signs individually
or as agent. Johnson v. Cate, 77 Vt. 218, 59 A. 830. On the other hand, although known to be acting
for an unknown principal, he is personally liable. Knowledge of the real principal is the test, and this
means actual knowledge, not suspicion. Cobb v. Knapp, 71 N. Y. 348, 27 Am. Rep. 51; Arsinger v.
Macnaughton, 114 N. Y. 535, 21 N. E. 1022, 11 Am. St. Rep. 687; McClure v. Central Trust Co.,
165 N. Y. 108, 58 N. E. 777, 53 L. R. A. 153; De Remer v. Brown, 165 N. Y. 410, 59 N. E. 129;
Winsor v. Griggs, 5 Cush. (Mass.) 210. If this be a correct statement of the law, it determines the
case before us.
London Lloyds is a voluntary association of merchants, shipowners, underwriters, and
brokers, originating in the seventeenth century, and growing into a vast commercial organization.
To it is due much of the law of marine insurance. In 1871 it was granted all the rights and privileges
of a corporation. In its rooms an extensive insurance business is carried on. Lloyds itself, however,
writes no policies. A broker for one wishing insurance posts the particulars of the proposed risk.
Then each underwriting member of the association who wishes to do so subscribes his name and the
share of the total desired that he wishes to take. When that total is reached, the insurance is effected.
A policy, in the form approved by Lloyds is then issued, containing the names of the underwriters
bound thereby and the name of their attorney in fact who handles the insurance affairs of the group.
30
So who will become obligated on any policy is not and cannot be known until the underwriting is
completed. And in each case only those who underwrite each particular policy are liable for any loss
under that policy, and liable for the amount which they have underwritten. The insured contracts
with each separately, *398 not with the group jointly. Fish v. Vanderlip, 218 N. Y. 29, 112 N. E.
425, Ann. Cas. 1916F, 150.
Therefore, while the binder was signed by Marsh, with the knowledge by all that he was
acting as agent, who were or were to be his principals, even he did not and could not then know.
Under such circumstances the agent becomes personally liable on his contract. Not only were his
supposed principals unknown to either Mr. Dewey and his agents; in fact there were none. Some
time in the future a group might be formed who would assume the risk. None existed when the
binder was signed. And the mere knowledge by the plaintiff or its predecessors of all these facts is
not, as a matter of law, sufficient to exonerate the defendant.
The judgments should be reversed, and a new trial granted, with costs to abide the event.
CARDOZO, C. J., and CRANE, LEHMAN, KELLOGG, and O'BRIEN, JJ., concur.
POUND, J., not sitting.
Judgment reversed, etc.
Resnick v. Abner B. Cohen Advertising, Inc.
104 A.2d 254 (D.C. 1954)
RESNICK
v.
ABNER B. COHEN ADVERTISING, Inc.
No. 1461.
Municipal Court of Appeals for the District of Columbia.
Argued March 8, 1954.
Decided April 13, 1954.
CAYTON, Chief Judge.
This action was brought against David E. Resnick for an amount due on a contract *255
signed by him as president of American Communication Co. Resnick filed an answer in which he in
effect admitted that 'American Communication Co.' was not the official name of a corporation, but
stated that he was only an employee of Royal Appliance Co., Inc., which was trading as American
Communication Co. Plaintiff moved for summary judgment, and the trial court granted the motion
31
on the theory that since defendant had signed the contract as president of a nonexistent company, or
on behalf of an undisclosed principal, he was personally liable on the contract. Defendant appeals,
contending that summary judgment should not have been granted because his answer raised
questions of fact.
In this jurisdiction an agent who enters into a contract without disclosing his principal is held
personally liable on it, [FN1] and he does not escape liability by purporting to act for a fictitious or
nonexistent principal. [FN2] On the other hand, when his principal is fully disclosed, the agent
ordinarily does not incur personal liability. [FN3] Hence the liability of appellant in the present case
depends upon whether a principal existed, and if so, upon the extent to which such principal was
disclosed. In determining this issue on appeal from a summary judgment, we are to be guided only
by the pleadings and the contract. If they raise a material question of fact, or if they fail to establish
appellant's liability as a matter of law, the summary judgment cannot stand.
* * *
We first note that the answer states that a corporation is trading under the name which
appears in the contract. At a trial on the merits this allegation may or may not be substantiated by
proof; but at present it stands uncontradicted and must be accepted as fact. It is well established that
a corporation may in the absence of fraud enter into binding contracts under an assumed or trade
name. [FN4] If, as defendant's answer indicates, he contracted for an existing corporation, using its
trade name, it cannot be said that he was representing a nonexistent or fictitious principal.
* * *
[7] Likewise it cannot be held that the pleadings establish that the principal was undisclosed. In
Restatement, Agency ' 4 (1933), it is said that a principal is disclosed if 'at the time of a transaction
conducted by the agent, the other party thereto has notice that the agent is acting for a principal and
of the principal's identity * * *.' The contract in this case appears on its face to be an ordinary
contract of a corporation executed by appellant as an officer thereof. (It is signed thus:
David E. Resnick, Pres.
Authorized Signature
American Communication Co.)
From such signature and from the allegations of the pleadings, there is no basis for saying
that appellee was led to believe that Resnick was acting for himself and not for a principal.
The next question is whether there was a sufficient disclosure of the principal's identity. We
have found no case in which this precise issue was presented and determined on the pleadings.
Among the cases dealing with the problem there is some conflict. [FN5] But in all of them it
appears that the issues *256 were developed at trial. In the Amans, Givner, and Saco Dairy cases,
the trade name used was as consistent with personal ownership of the business as with agency for
another, and the evidence revealed no further disclosure by the agent; so that, under the
circumstances, there was no disclosure either of the agency relationship or of the principal's identity.
But as we have already pointed out the evidence may develop that the contract in this case afforded
sufficient notice of the existence of an agency relationship.
* * *
32
From the cases we have cited, the law seems to be that the mere use of a trade name in a
contract signed by an agent is not sufficient to show as a matter of law that the principal was
disclosed. But it does not follow that solely because a trade name was used, the principal was as a
matter of law undisclosed. It has been recognized that contracts may be executed in a trade name
under such circumstances as to disclose the identity of the principal. [FN6] We think that such a
possibility exists here. Therefore, appellant should have the opportunity to prove the extent of
appellee's knowledge of the principal's identity. [FN7] It cannot be said that the pleadings exclude
the possibility of such knowledge. There is nothing to show the extent of the dealings between the
parties, the familiarity of appellee with the business operated as American Communication Co., or
whether the name was used in good faith to describe the principal. It must be determined whether
the identity of the principal was shown either by the use of its trade name or in some other manner.
These are issues of fact which cannot be decided on motion for summary judgment.
* * *
Appellant assigns as error the refusal of the trial court to permit him to file an amended
answer and counterclaim. He also says there was error in denying a motion for leave to intervene by
Royal Appliance Co. We need not pass on these claims of error. We assume that with the
remanding of the case for trial on the merits the trial court will exercise its discretion so as to permit
such amendments by either party as will fairly develop the issues, and will also entertain any proper
motion for intervention.
Reversed.
Williams v. Investors Syndicate
327 Mass. 124, 97 N.E.2d 395 (1951)
WILLIAMS
v.
INVESTORS SYNDICATE et al.
Supreme Judicial Court of Massachusetts, Hampden.
Argued Dec. 7, 1950.
Decided March 5, 1951.
WILLIAMS, Justice.
This is a bill in equity in which Bradford Estates, Inc., a Massachusetts corporation, and
Investors *125 Syndicate, a Minnesota corporation, are joined as defendants. Hereinafter they are
referred to as Bradford and Investors. It is alleged in the bill that the plaintiff obtained a 'finding'
against Bradford in the District Court of Western Hampden in the sum of $3,295.89 on April 21,
33
1948; that on August 12, 1947, Bradford gave a mortgage to Investors on certain premises in
Westfield designated as certain lots on page 130 of book of plans 25 at the registry of deeds; that
Investors proposed to foreclose the mortgage on April 23, 1948; that the real estate mortgaged
constituted the only asset of Bradford; that Bradford and Investors 'are, in fact if not in legal
phraseology, one and the same person and that the unjust enrichment of Bradford will enure to the
benefit of Investors'; that the premises in question were conveyed to Bradford by deed on June 19,
1947, for $15,000 by Robert P. Lane and Sara M. Lane; that the purchase price was provided by
Investors; that 'there was a fraud and collusion between Bradford and Investors and that, as a result
thereof, the plaintiff is out of pocket in the sum of $3,295.89, together with interest thereon.' The
plaintiff prays that Investors be ordered to pay to the plaintiff $3,295.89 with interest and until such
time as payment is made be restrained from foreclosing its mortgage. The evidence is reported and
the judge has reported findings of material facts substantially as follows: that Bradford received a
deed of the premises on June 19, 1947, and on the same day gave a mortgage on the land to Investors
in the sum of $15,000; that 'Bradford Estates, Inc., and Investors Syndicate were, in reality, one and
that Bradford Estates, Inc., was acting as a 'straw' for Investors Syndicate, and that the transactions
were in fraud of creditors * * * that in August, 1947, the plaintiff delivered loam on **396 the above
mentioned land which was in the name of Bradford Estates, Inc., for which he has not been paid, and
got an execution, from the District Court of Western Hampden, which has not been satisfied * * *
that the loam was utilized for the benefit of the defendant Investors Syndicate and that it has been
unjustly enriched at the expense of the *126 plaintiff, and that Investors Syndicate owes the plaintiff
the sum of $3,295.89.' He entered a final decree, from which Investors has appealed, ordering
Investors to pay that sum to the plaintiff. The record does not show that Bradford appeared,
answered, or has appealed from the decree.
We have difficulty in understanding the theory on which the plaintiff's bill is drawn. From
the judge's findings he apparently regarded it as alleging that the plaintiff was entitled to recover
from Investors $3,295.89 as the amount by which Investors has been unjustly enriched through the
delivery of loam by the plaintiff on land which 'in reality' belonged to Investors. We first consider
the case on the basis.
There are annexed to the plaintiff's bill copies of his declaration and the findings and decision
of the judge in the action brought by the plaintiff against Bradford in the District Court of Western
Hampden, in which action, the plaintiff alleges, he obtained a 'finding' against Bradford in the sum
of $3,295.89. These copies indicate that the finding was for the value of loam sold and delivered by
the plaintiff to Bradford. This declaration and the judge's findings were not introduced as evidence
in the instant case. The only document in evidence pertaining to that action was an execution which
recited a judgment for the plaintiff in the amount above stated. The only reference to the subject
matter of that action was in a question to the plaintiff by his counsel, 'And are you the man who
furnished the loam on the property on Western Avenue was developed as the Bradford Estates?' to
which the plaintiff answered, 'Yes.' There was no evidence of the delivery by the plaintiff of loam
on the premises described in his bill, of its value if delivered, or of the time of delivery. The judge,
therefore, had no evidence to warrant his finding that Investors was enriched at the expense of the
plaintiff to the extent of $3,295.89 by reason of loam delivered on land standing in the name of
Bradford, and the decree for the plaintiff based on this finding cannot stand.
34
*127 Neither is the plaintiff entitled to a decree if the bill be interpreted as seeking to enforce
against Investors a judgment obtained by the plaintiff against Bradford. As Investors is not a party
to the judgment, the plaintiff cannot recover against it on the judgment in an action at law. Lonnqvist
v. Lammi, 242 Mass. 574, 578, 136 N.E. 610; Jenkins Petroleum Process Co. v. Western Oil Corp.,
D.C., 21 F.Supp. 550. Freeman on Judgments (5th ed.) ' 1084.
We take the finding of the judge that Bradford was a 'straw' for Investors to mean that
Bradford was holding the land as agent for Investors. If Investors was an undisclosed principal at the
time of the loam transaction, the plaintiff, on discovering the relationship, could have proceeded on
his claim for the delivery of the loam against either the agent or the principal at his election. He
could not have proceeded against both jointly. Raymond v. Proprietors of Crown & Eagle Mills, 2
Metc. 319; Kingsley v. Davis, 104 Mass. 178; Weil v. Raymond, 142 Mass. 206, 213, 7 N.E. 860.
See Silver v. Jordan, 130 Mass. 319; Maynard v. Fabyan, 267 Mass. 312, 315, 166 N.E. 629. He has
proceeded against the agent and obtained a judgment which is unsatisfied. If Investors remained an
undisclosed principal when the plaintiff commenced his action against the agent Bradford, institution
of the action was not conclusive of an election by the plaintiff to hold the agent rather than the
principal. Gavin v. Durden Coleman Lumber Co., 229 Mass. 576, 580, 118 N.E. 897. Upon
discovery of the existence of the principal he could then have proceeded against it. The plaintiff,
however, has not done this but, on that interpretation of the bill which we are now considering, is
seeking to enforce against the principal his judgment obtained against the agent. As was said in Old
Ben Coal Co. v. Universal Coal Co., 248 Mich. 486, 491, 227 **397 N.W. 794, 795, a case similar
on its facts to the instant case, 'As plaintiff's right to recovery asserted here is alternative, depending
upon the doctrine of election, plaintiff cannot stand on the judgment against the agent as valid and
binding and treat such judgment as a cause of action against the principal.' Investors and Bradford
are separate corporate entities, and by his judgment against the latter *128 the plaintiff has acquired
no equitable right against the former.
The bill should have been dismissed as against Investors.
Decree reversed with costs of this appeal.
Grinder v. Bryans Road Bldg. & Supply Co.
290 Md. 687, 432 A.2d 453 (1981)
Court of Appeals of Maryland.
Elvin GRINDER, Indiv. and Trading As Grinder Construction et al.
v.
BRYANS ROAD BUILDING & SUPPLY CO., INC.
No. 76.
35
July 15, 1981.
RODOWSKY, Judge.
The liability of an undisclosed principal has been called an "anomaly" from the standpoint of
the law of contracts.[FN1] Here we focus on a particular aspect of the anomaly. Where the creditor
obtains a final judgment against one of the parties to the agency relationship, after learning of the
existence and identity of the principal, the creditor is precluded from obtaining judgment against the
other party. This is so even if the first judgment is unsatisfied. Reexamination of this rule of law
convinces us that it is unsound and should no longer be followed. We adopt the rule that, absent
other defenses, the third party may ordinarily proceed against the agent, or the previously
undisclosed principal, or both, until the performance is satisfied.
This appeal arises out of a common business situation. G. Elvin Grinder (Grinder) of
Marbury, Maryland is a building contractor. He did business as an individual and traded as "Grinder
Construction." Grinder maintained an open account, on his individual credit, with Bryans Road
Building & Supply Co., Inc. (the Plaintiff). On May 1, 1973 G. Elvin Grinder Construction, Inc., a
Maryland corporation (the *689 Company), was formed. Grinder owned 52% of the stock. On May
1, 1978 the Plaintiff sued Grinder, individually and trading as Grinder Construction, on the open
account, on which the balance represented exclusively purchases made after May 1, 1973. A motion
for summary judgment, with supporting affidavits and exhibits, accompanied the declaration. In his
affidavit in opposition to the required summary judgment Grinder swore that the purchases were
made by the Company, acting either through him as president, or through others as agents for the
Company, and that all purchases were used entirely on construction projects of the Company. As a
result the Plaintiff on August 15, 1978 filed an amended declaration which joined the Company as an
additional defendant. On February 23, 1979 the Plaintiff moved for summary judgment against the
Company, predicating its motion on the sworn admissions of Grinder, the president of the Company,
in his affidavit. This motion was not opposed and summary judgment was entered against the
Company in the amount of $5,912.68 on May 28, 1979.[FN2] At trial on the merits of the **455
claim against Grinder, the Plaintiff's position was that it had never been advised that the Company
was making purchases, that the purchases were made on the account of Grinder, the individual, and
that he was liable for the balance. Grinder testified that the Plaintiff had been advised to convert the
account to a corporate account. His counsel argued that the Plaintiff was estopped to deny that the
account was a corporate one because the Plaintiff had taken summary judgment against the
corporation. The trial court found as a fact thatGrinder *690 had not notified the Plaintiff either that
the billing on the open account should be transferred to a corporation or that Grinder's individual
liability should be terminated. In its oral opinion from the bench, the trial court further found that
the Company had received the assets for which the individual agent was billed, that the Plaintiff was
unaware of the principal-agent relationship and that it was relying on the credit of the agent. In an
application of pure legal reasoning, untainted by citation to the precedents, the trial court held that
merely taking summary judgment against the principal did not estop the Plaintiff from obtaining
judgment against the agent, Grinder. Judgment nisi was entered against Grinder on June 4, 1979.
* * *
36
Three days thereafter, Grinder filed a "motion to strike and enter judgment" which the court
in effect treated as a motion for new trial under Md. Rule 567 by deferring entry of final judgment.
Grinder's supporting statement of authorities referred to E. J. Codd Company v. Parker, 97 Md. 319,
55 A. 623 (1903) and thereby, for the first time, injected the concept of election into the case. In
Codd the creditor, upon finding that it had been dealing with an agent, made claim against the
principal in a proceeding in equity where an auditor's account was finally stated and ratified but
under which no dividends were paid to the creditor. In a subsequent action by the creditor against
the agent, in which the agent by special plea had set up the defense of election based upon the prior
judgment against the principal, judgment went for the agent and was affirmed on appeal. This Court
said (97 Md. at 325, 55 A. at 624):
And the general principle appears to be established that where an agent contracts
in his own name, without disclosing his interest, though in fact for the exclusive
benefit of another person, who is afterwards discovered, the creditor may sue
either, but after he has elected whom to sue and has sued either the agent or the
principal to final judgment, he cannot after that sue the other, whether the first
suit has been successful or not. (Emphasis in text.)
*691 At a hearing on July 2, 1979, the trial court struck the judgment against Grinder and entered
judgment in his favor against the Plaintiff for costs. The Plaintiff timely filed an order to "(e)nter an
appeal to the Court of Special Appeals from the judgment entered in this action on July 2, 1979."
The intermediate appellate court, in an opinion by Judge Wilner which closely reasoned
within the letter of our decisions involving the election rule, remanded without affirmance or
reversal under Md. Rule 1071. Bryans Road Building & Supply Co. v. Grinder, 46 Md.App. 10, 415
A.2d 615 (1980). Relying on the language of Codd, supra, and of Hospelhorn v. Poe, 174 Md. 242,
259, 198 A. 582, 590 (1938), that court held that election does not occur until the creditor takes a
final judgment against the one he chooses to hold to the exclusion of the other. It reasoned that the
judgment of May 28, 1979 against the Company was not a final judgment because there were
multiple claims in the case and the summary judgment **456 had not been certified as final pursuant
to Md. Rule 605 a. Thus, the Plaintiff's election was still open at the point of judgment nisi against
Grinder. Recognizing that neither party, nor the court, had fully appreciated the problem until both
judgments had been entered, the Court of Special Appeals concluded that "it would be a triumph of
legal fiction over justice for (it) to assume, as ultimately did the trial court, that (Plaintiff) made a
knowing election in favor of" the judgment against the Company. 46 Md.App. at 20, 415 A.2d at
621. It therefore remanded to permit the Plaintiff to make an election.[FN3]
* * *
*692 This disposition by the Court of Special Appeals leaves the Plaintiff with a judgment either
against Grinder or against the corporation, but not against both. But, in its cross-petition for
certiorari, which we granted, the Plaintiff argues that it should be entitled to a judgment against both.
That was, of course, the original decision by the trial court. The Plaintiff preserved this argument in
its brief to the Court of Special Appeals. Grinder has raised a procedural question which is directed
at the remand by the Court of Special Appeals. He contends the Plaintiff's order for appeal limited
review to the judgment for costs against it rendered on July 2, and that the Plaintiff could not appeal
from the summary judgment against the Company because it was in the Plaintiff's favor. Without
37
intimating whether *693 these arguments have merit or not in relation to the remand to permit an
election, it is clear that the judgment of July 2 was against the Plaintiff and that the order for appeal,
even if limited to it, would bring up the question whether the Plaintiff ought to be permitted to take
judgment against the agent, in addition to its unsatisfied judgment against the principal.
Reexamination of the election rule, at least to some degree, is therefore squarely presented.
* * *
There is an exception to the election rule applicable where the creditor takes judgment
against the agent before knowledge of the identity of the principal, in which case the principal is not
discharged and judgments against both may stand, with but one satisfaction allowed. This exception
was applied as an alternative ground of decision in Wheaton Lumber Co. v. Metz, 229 Md. 78, 82,
181 A.2d 666, 669 (1962).
Our most recent holding which applies the election rule as Maryland law is Garfinkel v.
Schwartzman, 253 Md. 710, 254 A.2d 667 (1969), a suit for real estate broker's commissions in
which the undisclosed principal seller and his agent to sell were joined. Judgment in favor of the
broker against the principal was affirmed. On the broker's cross-appeal from a directed verdict in
favor of the agent we said, on the authority of Hospelhorn, that the broker had his judgment against
the principal and could not recover his commissions from both. Traylor v. Grafton, 273 Md. 649,
332 A.2d 651 (1975) presented the contrast between the election rule, in force in Maryland, and the
Pennsylvania rule, discussed infra, under which judgments against both principal and agent are
permitted, with one satisfaction. That case involved a contract made in Pennsylvania to purchase
Pennsylvania realty. Pennsylvania law applied and notice of intention to rely upon the law of
Pennsylvania was given. See Md. Code (1974, 1980 Repl.Vol.), s 10-504 of the Courts and Judicial
Proceedings Article.
On the foregoing review of the Maryland precedents, we could dismiss the Plaintiff's request
for reexamination of the election rule because it is too deeply embedded in our law to *695 change.
But a reading of these cases makes plain that we are not dealing with a rule in reliance on which
people order their affairs or structure their business transactions. It is not a rule with respect to
which predictability of the result of its application should remain stable in order to protect past
transactions. Indeed, **458 from the standpoint of the principal and agent, the rule predicts only that
an election must be made, but because the election is that of the creditor, the result of the election is
not necessarily predictable. As Grinder would urge in the instant matter, the election could occur by
operation of law and unintentionally from the creditor's standpoint. It is, as Judge Wilner
characterized it, a "technicality."
* * *
The American Law Institute's position was almost immediately attacked by Professor
Maurice H. Merrill in his article, Election Between Agent and Undisclosed Principal: Shall We
Follow the Restatement?, 12 Neb.L.Bull. 100 *702 (1933).[FN7] He reviewed the decisions state by
state. He recognized that what one considered to be the numerical majority rule depended very
much on the interpretation given to the then existing decisions. His reading of the cases for their
holdings found five jurisdictions supporting the Restatement position [FN8] and four in which
satisfaction of the obligation was the decisive test. [FN9] If obiter dicta **462 were included in the
38
examination, Merrill would add ten additional states as supporting election by judgment. On the
other hand, if "those courts which treat the recovery of judgment against both principal and agent in
the same action as a problem of procedure rather than of substance are properly to be aligned with
the opponents of the Restatement rule," then Merrill would count eleven as favoring the
Pennsylvania rule and four as favoring the Restatement rule. 12 Neb.L.Bull., supra, at 117.
* * *
The principal who acts through an agent who appears to be a principal has a liability to the third
party. So does the agent. Both the undisclosed principal and the agent know that either of them may
be called upon to satisfy the creditor's demand. And if the creditor proceeds to judgment against the
agent without knowledge of the **464 principal's identity, he may have judgment against both.
It is only in the class of cases where a final judgment is first taken against the principal, or
against the agent with knowledge of the principal's identity, that the election rule comes into play.
Cases falling into this class seemingly would not occur with frequency because the agent, if sued
first, would give notice to the principal to defend in order to *707 bolster the agent's position to
claim indemnification, and the case should ordinarily be defended on the merits. In cases where
election can become an issue, we are satisfied that adherence to Codd will create more unjust results
and generate more mischief than would a change in the law to a rule that looks to one satisfaction.
Under the Codd rule, if the problem arises out of separate actions, the second suit will likely have
been brought because the judgment in the first action has not been satisfied. If judgment in the
second action is denied solely because the law considers an election to have taken place, a just claim
has necessarily been thwarted. If the creditor proceeds in an action in which both principal and
agent are joined, an interlocutory judgment against one defendant, e. g., by default or through
summary judgment, can become a trap. It could leave the creditor with but one possibly
uncollectible judgment, unless the election rule is further eroded, as some courts have done, by a
requirement that an adversary call upon the plaintiff to elect before the first judgment is taken. The
need to resort to this variation strongly suggests the dissatisfaction of courts with the basic election
rule. If, in a joint action, the proceedings against each defendant are in tandem and the plaintiff is
entitled, under the election rule, to a judgment against either, the decision requires knowledge of
relative assets. This is not ordinarily a subject of pre-trial discovery and the choice involves the risk
that the judgment opted for may prove to be uncollectible, while a solvent party may be discharged,
because his liability is viewed as "alternative."
We deal here with a question of whether a judge made legal theory has become outmoded.
This is traditionally a matter for a state court of highest resort. Modern practitioners have no
difficulty in viewing the liability of the undisclosed principal to the creditor as founded in a policy of
the law which looks to the reality that the undisclosed principal, for his business purposes, has
authorized the contract through his agent, even though the creditor may have intended to form a
contract only with the agent.
The rule of election first enunciated by this Court in Codd is overruled. We hold that a
creditor who contracts with the *708 agent for an undisclosed principal does not obtain alternative
liability, that he may proceed to judgment against both, but that he is limited to one satisfaction.
JUDGMENT OF THE COURT OF SPECIAL APPEALS VACATED. CASE REMANDED
TO THAT COURT FOR THE ENTRY OF A JUDGMENT REMANDING THIS CASE TO THE
39
CIRCUIT COURT FOR CHARLES COUNTY WITH DIRECTIONS TO ENTER JUDGMENTS
CONSISTENT WITH THIS OPINION. COSTS TO BE PAID BY G. ELVIN GRINDER.
Insurance Co. of North America v. Miller
765 A.2d 587
Court of Appeals of Maryland.
INSURANCE COMPANY OF NORTH AMERICA et al.
v.
William R. MILLER, II, et al.
Jan. 11, 2001.
Argued before BELL, C.J., and ELDRIDGE, RAKER, WILNER, CATHELL, HARRELL
and LAWRENCE F. RODOWSKY, (Retired, specially assigned), JJ.
CATHELL, Judge.
This case involves an analysis of the fiduciary duty that an agent owes to its principal.
Appellant, Insurance Company of North America et al. (INA), [FN1] filed a Complaint in the Circuit
Court for Baltimore County against William Ray Miller, II, appellee, and North American Risk
Management, Inc. (NARM), [FN2] alleging several causes of action, including conversion, breach of
fiduciary duty, and negligence arising out of Miller's knowledge of, and participation in, a premium
diversion scheme. Appellant filed a Motion for Partial Summary Judgment for the breach of
fiduciary duty claim against Mr. Miller, which was denied by the Circuit Court. [FN3]
FN1. Insurance Company of North America is one of numerous insurance companies that
make up the CIGNA Property and Casualty Companies. The plaintiffs listed on the original
complaint and collectively known as the CIGNA Companies were INA, Century Indemnity
Company, CIGNA Fire Underwriters Insurance Company, CIGNA Insurance Company,
CIGNA Property and Casualty Insurance Company, Indemnity Insurance Company of North
America, Pacific Employers Insurance Company, and Bankers Standard Insurance Company.
FN2. NARM is an insurance agency and brokerage firm duly organized and existing under
the laws of the State of Maryland with its principle place of business in Annapolis,
Maryland. Appellee set up NARM in early 1997, when, as we discuss, infra, the previous
agency with whom appellee was associated, Hickman Agency, ceased operations. Appellee
is currently the President and Chief Executive Officer of NARM.
FN3. This was an ex contractu action based upon breaches of the agency agreement. It was
alleged that the breaches of fiduciary duty constituted breaches of the agency contract.
40
When the case went to trial on November 30, 1999, appellant proceeded against appellee on
the claims for breach of fiduciary duty and negligence. After the evidentiary phase of the bench
trial was concluded, the trial judge entered judgment in favor of NARM on all claims, and entered
judgment in favor of appellee on the claims for conversion and "suit on account." Then the Circuit
Court, prior to closing arguments, requested that the parties prepare trial memoranda on the relevant
law concerning the fiduciary duty that an agent owes to a principal. Closing arguments took place
on December 10, 1999, after which the Circuit Court entered judgment in favor of appellee on all
remaining counts. Appellant filed a timely notice of appeal to the Court of Special Appeals. On
our own initiative, we granted review prior to argument in the Court of Special Appeals. Appellant
presents two questions to this Court:
1. Did the trial court err by ruling that Miller did not breach any fiduciary duties and was not
negligent by obtaining premium financing for an insurance premium of an INA insured, and using
the funds to pay another premium financing company, instead of paying the funds directly to INA
for the premium due?
2. Did the trial court err by ruling that Miller was not an agent of INA for the purpose of collecting
premiums and forwarding premiums to INA, and, as a result, did not breach any fiduciary duties
by failing to do so?
We answer both questions in the affirmative. Under the circumstances here present,
appellee was an agent of INA for the purpose of collecting and forwarding premiums, which
imposed upon him a fiduciary duty to INA, which he breached by failing to forward to INA the
relevant premiums and/or by not notifying INA, or timely sharing with INA his knowledge, that the
premiums at issue were being improperly diverted. Additionally, appellee breached his fiduciary
duty to INA when he actively participated in obtaining premium financing for an insurance premium
of an INA insured, and used the funds to return to another premium financing company monies due
it on a completely unrelated transaction, instead of causing the funds to be remitted directly to INA
for the premium due it. We also hold that appellee's actions in the double financing scheme, at a
minimum, could constitute negligence. Accordingly, we reverse the ruling of the Circuit Court for
Baltimore County and shall remand the case to that court for further proceedings consistent with this
opinion.
I. Facts
Appellee has been a licensed insurance agent in the State of Maryland since 1992. Appellee
worked at J.L. Hickman & Company, Inc., [FN4] a Texas-based insurance brokerage, from
approximately 1993 to early 1997, when the Hickman Agency went out of business. The Hickman
Agency's primary line of business was writing coverage for the funeral industry. At some point
prior to August 1995, appellee became the Chief Operating Officer and Executive Vice President of
the Hickman Agency, and held himself out as such. He was paid a salary as an employee of the
Hickman Agency and earned commissions on insurance sales generated by himself and the Hickman
Agency.
FN4. John L. Hickman, an insurance agent with a Maryland license, was the owner,
President, and Chief Executive Officer of J.L. Hickman & Company, Inc. J.L. Hickman &
Company, Inc. was known by several other names, including IFA Insurance Services and
41
American Funeral Insurance Group (AFIG). For ease of reference, we will refer to the
entity as the "Hickman Agency" throughout this opinion.
Effective August 1, 1995, the Hickman Agency entered into a CIGNA Agency Company
Agreement with INA. This agreement was signed by appellee as Chief Operating Officer and
Executive Vice President of the Hickman Agency. The agreement created a principal-agent
relationship between INA and the Hickman Agency, respectively, from August 1, 1995 until the
Hickman Agency ceased operations in early 1997. The agreement provided:
1 Our Relationship
a Authority. You will act as our agent for those lines of business and those territories in which
you and we[ [FN5]] are both licensed and where we specifically authorize you to do business....
FN5. The Agreement provides that "you" refers to the Hickman Agency and "we" refers to
the relevant CIGNA Companies.
....
2 Your Authority and Duties
....
b Collection of Premiums.
....
3 All premiums, including return premiums, which you receive are our property. You will hold
such premiums as a trustee for us. This trust relationship and our ownership of the premiums will
not be affected by our books showing a creditor-debtor relationship, the amount of balances at
stated periods or your retention of commissions. Unless we agree otherwise in writing, you must
maintain premium monies in a separate bank account and not mingle such monies with your own
funds.
On at least two separate occasions, Mr. Miller acknowledged that his personal relationship
with INA was that of agent and principal. At trial, Mr. Miller, through counsel, stipulated that he
was an appointed agent for INA from October 1995 through the Spring of 1997. Additionally, in a
third-party action filed by appellee in the Circuit Court for Baltimore County against Utica Mutual
Insurance Company, case number 03-C-97-007281, he again recognized the principal-agent
relationship between INA and himself and that the provisions of the agreement applied to him
individually.
INA has brought this complaint against appellee for his actions and involvement in a
complex double financing scheme. According to Ms. Mannino's [FN6] testimony, the Hickman
Agency had three bank accounts: Account Number 346 was a money market account; Account
Number 80900 was referred to as a commission account; and Account Number 722 was a trust
account to which premium trust monies were to be deposited so as to be available to pay premiums
to insurance carriers. These accounts were not managed properly--as discussed, infra, the premium
dollars, intentionally, were not held "in trust" at the agency.
FN6. Ms. Donna Mannino, an employee of the Hickman Agency, was hired by Mr. Miller in
1994 as a customer service and account representative and eventually became the office
manager and Assistant Vice-President.
42
The Hickman Agency and appellee [FN7] were required under Maryland insurance
regulations and its agreement with the CIGNA Companies to hold premium dollars paid by an
insured or a premium financing company in trust for INA. [* * *] On redirect examination, Mr.
Miller acknowledged that it was a general practice that an insurance company would expect
proceeds of a premium financing agreement to be paid directly to it, without being retained by the
insurance agency. The Hickman Agency's cash flow management plan involved agents, including
appellee, obtaining an insurance policy for a customer and setting up an installment payment plan for
the premium due with the insurance company. The agent would not always inform the insured of
the installment plan. At the same time, the agent, in this case appellee, would obtain financing of
the same premium amount for the insured through a premium financing company.
FN7. In the case at bar, Miller, unlike insurance agents that have limited knowledge of the
practices of a brokerage, had knowledge of, and actively participated in, the breaches of
fiduciary duties that occurred.
Generally, the premium financing company would pay the full amount of the premium to the
Hickman Agency, with the expectation that the full amount would be paid directly to the insurance
company. However, under the scheme utilized by the Hickman Agency and known to appellee, the
full amount received from the premium financing company was not immediately paid over to
insurance companies, including INA. Instead, the Hickman Agency would deposit the premium
payment into its own bank account, and only pay the insurance company the amount of the
"installment" that the insurance company believed, as a result of information furnished by the
agency, was due. The insured's premiums would generally be used to repay the premium financing
company over a period of time. Apparently, neither the insureds, nor the premium financing
companies, nor the insurer were aware of the scheme. [FN9]
FN9. The insured might pay the entire premium to Hickman or Hickman might cause the
entire premium to be financed. In either event, Hickman would only remit to the insurance
company installments of the premium, diverting the main portion of the premium to its own
use. Apparently, eventually, it began utilizing financed premium sums of one policy to pay
installments to premium financing companies in respect to previous premium financed
policies. In other words, it appears to have been a modified insurance "Ponzi scheme."
The money that improperly remained with the Hickman Agency was moved with appellee's
knowledge and sometimes with his active participation out of the trust account and was apparently
used to pay other expenses within the Hickman Agency. This was true for premiums paid to the
Hickman Agency on INA accounts as well as accounts of other insurance companies. In other
words, the premiums were held "out-of-trust." By depositing the full amount of the insured's
premium advanced by the premium financing company (or the insured) into its own bank account,
the Hickman Agency had the benefit of having the money (or part of it) for its own use from the time
the money was received until the money was needed to pay installments to the insurance company.
[FN10]
FN10. For example, if a premium financing company financed $1000.00 of a policy for an
insured, and paid $1000.00 to the Hickman Agency for the premium, $1000.00 would be
43
deposited into a Hickman Agency's bank account. At the same time, the insurance company,
which was led to believe that the insured was paying a premium on an installment plan,
requested payment from the Agency only for the first installment of $100.00. The Hickman
Agency would pay the requested $100.00, leaving $900.00 remaining in the Agency's bank
account for its own use. After the second installment was remitted, Hickman would have
the use of $800.00, etc.
Appellee was aware of, and actively participated in, and was in charge of, several accounts
that had this "double financing" scheme in place. The evidence presented on the record
demonstrates that he was responsible for signing checks and sending premium payments to INA for
"installments" that INA believed were due on numerous accounts. Mr. Miller admitted, during
direct examination, that "it wouldn't be necessary for the insured to stretch out payments over time
with an installment plan if they had an insurance premium financing plan in place...." Ms. Suzanne
DiSanti, a financial coordinator for the CIGNA Companies, testified that no "rule or regulation or
policy of the CIGNA Companies allow the use of premium funds for anything other than paying
CIGNA's premiums as they are due[.]" She further testified that had CIGNA known of the double
financing scheme, it would not have permitted it " [b]ecause a policy would never be put on
installments if it was known to be premium financed." She continued, "if we find out that a policy
is premium financed and have not been told by the agent or broker, we immediately notify the
underwriting department so that they can contact the agent or broker and tell them that all monies
have to be paid up front and that the policy is then put back on annual pay."
*
*
*
INA was not paid the premium for numerous insureds with policies bound through the
Hickman Agency. After the Hickman Agency collapsed in 1997, Ms. Mannino sent letters to INA
on behalf of several insureds to explain that the insureds had paid the premium for their policies, and
that INA should not cancel their policies even though it had not received the premium payments.
[FN13] At trial, appellant introduced two examples of installment payments by the Hickman
Agency to INA for installments INA believed were due, based on the improper representations to
INA that the policy premiums would be paid in installments. Appellee signed the checks payable to
INA for these improper installment payments. The Hickman Agency collapsed shortly thereafter
and its employees tendered their resignations in March 1997.
FN13. Additional INA insureds included: Wilson Financial Group, Shrine of Remembrance,
Everett Derr and Anderson Funeral Home, Berge Pappas Smith Mortuary, Miles-Dameron
Funeral Home, Fairhaven Realty Associates, Trousdale Enterprises, and South Valley
Funeral Escorts.
Appellee admitted that by at least as early as the latter part of 1996, he was aware that the
Agency was "out-of-trust" and of the double financing scheme. He did not advise the Maryland
Insurance Administration or INA that the Hickman Agency was out-of-trust and he participated in
the scheme until at least the end of March 1997. Prior to Ms. DiSanti's testimony, the parties agreed
that the amount of money owed to INA by the Hickman Agency was $597,850.00. Ms. DiSanti's
report which contained this information was entered into evidence as plaintiff's exhibit 23. The trial
court did not consider the issue of damages in its opinion.
44
II. Discussion
In an action tried without a jury, an appellate court "will review the case on both the law and
the evidence. It will not set aside the judgment of the trial court on the evidence unless clearly
erroneous, and will give due regard to the opportunity of the trial court to judge the credibility of the
witnesses." Md. Rule 8-131(c). However, "[t]he clearly erroneous standard for appellate review in
[Maryland Rule 8-131] section (c) ... does not apply to a trial court's determinations of legal
questions or conclusions of law based on findings of fact." Heat & Power Corp. v. Air Products &
Chem. Inc., 320 Md. 584, 591, 578 A.2d 1202, 1205 (1990). The determination of the existence of
a principal-agent relationship is, generally, a question of fact. The evidence presented in this case,
however, demonstrates that Mr. Miller (1) stipulated to the fact that he was an appointed agent of
INA, and (2) asserted in court memoranda in a related court proceeding that he was an "appointed
agent."
Although the trial court acknowledged this stipulation, it improperly limited the scope of his
agency under the relevant Maryland law surrounding such principal-agent relationships.
A. Principal-Agent Relationship
"Agency is the fiduciary relation which results from the manifestation of consent by one
person [the principal] to another [the agent] that the other shall act on his behalf and subject to his
control and consent by the other so to act." Green v. H & R Block, Inc., 355 Md. 488, 503, 735 A.2d
1039, 1047 (1999) quoting restatement (Second) of Agency § 1 (1958); * * * Although such a
relationship is not necessarily contractual in nature, it is always consensual, * * * and its creation is
to be determined by the relations of the parties as they exist under their agreements or acts. * * *
The ultimate question is of intent. * * *
The record of the case sub judice provides:
Q. Can you tell us whether Mr. Miller was an appointed agent by the CIGNA Companies?
MR. CONTE:[ [FN14]] Objection.
FN14. At trial, Mr. Conte was counsel for appellee and Mr. Chason was counsel for
appellant.
THE COURT: Is that issue in dispute?
....
MR. CONTE: That is not in dispute. Objection withdrawn.
....
THE COURT: The fact that he was an agent during the time period....
MR. CHASON: As of October of 1995. If counsel will stipulate to that, we can move on.
THE COURT: And continuing?
MR. CHASON: And continuing into 1997.
....
THE COURT: You're not disputing that Miller was an agent for the CIGNA group from 1995
45
through 1997, is that correct?
MR. CONTE: Through--until May of '97.
THE COURT: From what?
MR. CONTE: May of '97.
MR. CHASON: That's fine. May of 1997.
THE COURT: That's good.
MR. CHASON: We'll take as established.[ [FN15]]
FN15. See Utica Mutual Insurance Company v. Miller, 130 Md.App. 373, 389, 746 A.2d
935, 944, cert. denied, 359 Md. 31, 753 A.2d 3 (2000), where the Court of Special Appeals
stated, "[Miller] was a general agent for [INA]." Additionally, in Reliance Insurance
Company v. J.L. Hickman & Company, civil action number MJG-97-3194, a case pending in
the United States District Court for the District of Maryland, before Judge Marvin J. Garbis,
an implied agency relationship was found to have existed between Mr. Miller and another
insurance company with which Mr. Miller did not even have an agency appointment at the
time of the transactions alleged in that case, which also arose out of policies issued to
Gunther's Leasing.
Through counsel, both during the trial of the case at bar, and in the related third-party action,
appellee made a judicial admission that he was an agent arising from the Agreement between the
Hickman Agency and CIGNA. Under Maryland law, there is a prima facie presumption that an
attorney has the authority to bind his client by his actions related to litigation. As we have said:
[T]here is a prima facie presumption that an attorney has authority to bind his client by his actions
relating to the conduct of litigation. * * * Cf. 2 Restatement (Second), Agency, § 284, comment e
(1958). This is particularly true of stipulations or admissions made in the course of a trial. The
appellee contends, however, that while a client may be bound by an admission by counsel in a
pending case, he is not bound in subsequent litigation, and especially where a different issue is
presented. We see no reason for the distinction. It is generally recognized that admissions made
by an attorney may be available, for proper evidential purposes, in other litigation. See 4
Wigmore, Evidence, § 1063 (3d ed., 1940), McCormick, Evidence, § 244, p. 520 (1954), * * *
Secor v. Brown, 221 Md. 119, 123-24, 156 A.2d 225, 227 (1959).
Mr. Miller's acknowledgment, through counsel, both during the trial proceedings in the case
sub judice, and in a third-party action filed by him against Utica Mutual Insurance Company, as to
the significance of the Agreement to him individually, is germane to the issue at bar. As we have
said, " '[a] man shall not be allowed to blow hot and cold, to claim at one time and deny at another.' "
Van Royen v. Lacey, 266 Md. 649, 652, 296 A.2d 426, 428 (1972) quoting Cave v. Mills, 7 H. & W.
927. Mr. Miller was an appointed agent of the CIGNA Companies, including INA.
B. Fiduciary Relationship
The issue before us, therefore, is not whether Mr. Miller was an agent of INA but what was
the scope of his agency relationship. The trial court inappropriately limited the scope of Mr.
Miller's agency relationship to that of an "insurance agent" who sold insurance and ruled that his role
46
as an insurance agent did not obligate him to ensure that premiums were forwarded to INA. Under
this theory, Mr. Miller only had a duty to sell insurance and contractually bind INA, but then did not
have the corresponding duty to see to the remittance of premiums to INA for insurance coverage
bound. [FN16]
FN16. As we have indicated, Mr. Miller did not lack knowledge of the events that were
occurring, and was an active participant in the events constituting breaches of fiduciary duty.
He was a stipulated agent of INA itself, not a mere employee of Hickman. The trial court,
in any event, erroneously limited the scope of "insurance agents," who have knowledge of
improprieties, as we note, infra.
The scope of Mr. Miller's agency is not limited by a description of " insurance agent." As
we discussed, supra, he stipulated to the fact that he was an appointed agent of INA. This
relationship is not somehow limited because he is an insurance agent, rather, it is a broader
relationship than that which the trial court found.
Maryland Code (1995, 1997 Repl.Vol.), section 1-101(c) of the Insurance Article provides in
relevant part:
(c) Agent.--(1) "Agent" means a person that, for compensation, solicits, procures, negotiates, or
makes insurance contracts, including contracts for nonprofit health service plans, dental plan
organizations, and health maintenance organizations, or the renewal or continuance of these
insurance contracts for persons issuing the insurance contracts.
(2) "Agent" does not include:
(i) an individual who performs clerical, stenographic, or similar office duties while employed by
an agent or insurer, including a clerical employee, other than a clerical employee of an insurer,
who takes insurance information or receives premiums in the agent's office, if the employee's
compensation does not vary with the number of applications or amount of premiums;
(ii) a regular salaried officer or employee of an insurer who gives help to or for a qualified agent, if
the officer or employee is not paid a commission or other compensation that depends directly on
the amount of business obtained; or
(iii) if not paid a commission, a person that obtains and forwards information for:
1. group insurance coverage;
2. enrolling individuals under group insurance coverage; or
3. issuing certificates under group insurance coverage.
....
(g) Appointment.--"Appointment" means an agreement between an agent and insurer under which
the agent, for compensation, may solicit, procure, negotiate, or make policies issued by the
insurer.[ [FN17]]
FN17. See also Maryland Code (1995, 1997 Repl.Vol.), section 10- 103(a) of the Insurance
Article which provides:
(a) Agents--In general.--Except as otherwise provided in this article, before a person acts as
an agent in the State, the person must obtain:
(1) a certificate of qualification in the kind or subdivision of insurance for which the person
intends to act as an agent; and
47
(2) an appointment from an insurer.
Appellee meets all of the criteria to be an appointed agent outlined above. Additionally, he
does not meet any of the criteria set up in subsection 1- 101(c)(2) that would exempt him from status
as an agent of INA. Specifically, section 1-101 clarifies that, under Maryland's Insurance Code, an
appointed agent generally has all the responsibilities and duties typically bestowed upon any agent.
That imposes upon him the duty to inform his principal of any improprieties of which he has
knowledge and forbids his active participation in any such improper actions. The trial court erred in
attempting to limit this relationship.
The trial court's reasoning also fails to acknowledge Mr. Miller's obligations under standard
Maryland insurance regulations. It is clear under the Code of Maryland Regulations (COMAR),
that keeping funds "in trust" is one of the duties of insurance agents. The Code of Maryland
Regulations (COMAR) 31.03.03.01 provides:
A. Every insurance agent and broker acting as such in this State who does not have the express
written consent of his or its principals to mingle premium monies with his or its personal funds
shall hold the premium monies separate from other funds in accordance with this regulation.
B. Agents and brokers who do not make prompt remittance to principals and assureds of the funds
shall deposit them in one or more appropriately identified accounts in a bank or banks authorized
to do business in this State or subject to jurisdiction of this State, from which withdrawals may not
be made except as hereinafter specified (any such account is hereinafter referred to as a "premium
account").
....
E. Withdrawals.
(1) Withdrawals from a premium account may not be made other than for the following purposes:
(a) Payment of premiums to principals.
(b) Transfer to an operating account of bank interest, if the principals have consented to it in
writing.
(c) Transfer to an operating account of commissions either actual or average. If average
commissions are used, the agent or broker shall maintain on file in his office at all times a letter
from each principal stating the percentage of the average commission.
(d) Withdrawal of voluntary deposits.
(e) Payment of return deposits to assureds.
(f) Payment of return premiums to assureds in the ordinary course of business when a written
agreement with the principal authorizing this practice exists.
(2) However, a withdrawal may not be made if the balance remaining in the premium account
thereafter is less than aggregate net premiums, return premiums, and deposits received but not
remitted.
These provisions, and the terms of the 1995 agreement between CIGNA and Hickman,
demonstrate that Mr. Miller's duties, as an appointed agent of INA, with knowledge of what was
occurring, include the duty to make or insure the remittance of payments to INA and to keep
premium funds in trust. His responsibilities were not merely limited to the selling of insurance.
The trial court relied on our analysis in Kann v. Kann, 344 Md. 689, 713, 690 A.2d 509, 521
48
(1997), where we said:
[W]e hold that there is no universal or omnibus tort for the redress of breach of fiduciary duty by
any and all fiduciaries. This does not mean that there is no claim or cause of action available for
breach of fiduciary duty. Our holding means that identifying a breach of fiduciary duty will be the
beginning of the analysis, and not its conclusion. Counsel are required to identify the particular
fiduciary relationship involved, identify how it was breached, consider the remedies available, and
select those remedies appropriate to the client's problem.
Contrary to the trial court's ruling, we hold that appellant: (1) identified the particular
principal-agent fiduciary relationship created in the case at bar; (2) identified that it was breached by
appellee participating in the double financing scheme, not forwarding premiums, and not informing
INA that premiums were out-of-trust; (3) considered the remedies available; and (4) selected those
remedies appropriate to the client's problem.
We have recently had the opportunity to expound on the duties that an agent owes, generally,
to any principal in Green v. H & R Block, Inc., 355 Md. 488, 517-19, 735 A.2d 1039, 1055-56
(1999):
The duties an agent owes to his or her principal are well established. An agent has "a duty to his
principal to act solely for the benefit of the principal in all matters connected with his agency."
restatement (Second) of Agency § 387 (1958). We have recognized the
" 'universal principle in the law of agency, that the powers of the agent are to be exercised for the
benefit of the principal only, and not of the agent or of third parties. A power to do all acts that
the principal could do, or all acts of a certain description, for and in the name of the principal, is
limited to the doing of them for the use and benefit of the principal only, as much as if it were so
expressed.' " (Emphasis in original).
King v. Bankerd, 303 Md. 98, 108-09, 492 A.2d 608, 613 (1985)(quoting Adams' Express Co. v.
Trego, 35 Md. 47, 67 (1872)). Moreover, an agent is under a strict duty to avoid any conflict
between his or her self- interest and that of the principal: " 'It is an elementary principle that the
fundamental duties of an agent are loyalty to the interest of his principal and the need to avoid any
conflict between that interest and his own self- interest.' " C-E-I-R, Inc. v. Computer Dynamics
Corp., 229 Md. 357, 366, 183 A.2d 374, 379 (1962) (quoting Maryland Credit v. Hagerty, 216
Md. 83, 90, 139 A.2d 230, 233 (1958)). As Professor Mechem has observed:
"It is the duty of the agent to conduct himself with the utmost loyalty and fidelity to the interests of
his principal, and not to place himself or voluntarily permit himself to be placed in a position
where his own interests or those of any other person whom he has undertaken to represent may
conflict with the interests of his principal."
PHILIP MECHEM, MECHEM OUTLINES AGENCY § 500, at 345 (4th ed.1952)....
One of the primary obligations of an agent to his or her principal is to disclose any information the
principal may reasonably want to know. See Impala Platinum v. Impala Sales, 283 Md. 296, 324,
389 A.2d 887, 903 (1978)(quoting Herring v. Offutt, 266 Md. 593, 597, 295 A.2d 876, 879 (1972))
(recognizing duty of fiduciary "to make full disclosure of all known information that is significant
and material to the affairs" of the fiduciary relationship); C-E-I-R, Inc., 229 Md. at 367, 183 A.2d
at 379-80 ("[T]he rule is well established that an agent is under a duty to disclose to his [principal]
any information concerning the agency which the [principal] would be likely to want to know.").
49
The obligation to disclose is strongest when a principal has a conflicting interest in a transaction
connected with the agency. See restatement (Second) of Agency § 389 (1958) ("Unless otherwise
agreed, an agent is subject to a duty not to deal with his principal as an adverse party in a
transaction connected with his agency without the principal's knowledge.") (emphasis added). An
agent's failure to disclose information material to the agency thus constitutes a breach of the
principal-agent relationship.
Where an agent breaches a duty to the principal and profits from the breach, the principal may
maintain an action to recover those profits for her or himself. Nagel v. Todd, 185 Md. 512, 517, 45
A.2d 326, 328 (1946) (An agent "cannot make a secret profit out of any transaction with his
principal."); restatement (Second) of Agency § 388 (1958) ("[A]n agent who makes a profit in
connection with transactions conducted by him on behalf of the principal is under a duty to give
such profit to the principal.").... [Alterations in original.]
In the case sub judice, appellee stipulated that he was an agent of INA from 1995 until May
1997. The evidence is clear that he had knowledge of what was occurring and participated in part of
the scheme. As an agent, he had a fiduciary duty to INA, which he breached. See id. at 504, 735
A.2d at 1048 (" 'An agent is a fiduciary with respect to matters within the scope of his agency.' ")
quoting restatement (Second) of Agency § 13 (1958). restatement (Second) of AgencyY § 13
further provides:
Among the agent's fiduciary duties to the principal is the duty to account for profits arising out of
the employment, the duty not to act as, or on account of, an adverse party without the principal's
consent, the duty to not compete with the principal on his own account or for another in matters
relating to the subject matter of the agency, and the duty to deal fairly with the principal in all
transactions between them.
The federal courts and courts of our sister states are generally in accord. See generally Frey
v. Fraser Yachts, 29 F.3d 1153, 1159 (7th Cir.1994) ( " 'The chief object of the principle [of agency]
is not to compel restitution where actual fraud has been committed, or unjust advantage gained, but it
is to prevent the agent from putting himself in a position in which to be honest must be a strain on
him, and to elevate him to a position where he cannot be tempted to betray his principal.' " (quoting
Quest v. Barge, 41 So.2d 158, 164 (1949))); Chemical Bank v. Security Pac. Nat'l Bank, 20 F.3d
375, 377 (9th Cir.1994) ("The very meaning of being an agent is assuming fiduciary duties to one's
principal."); Burdett v. Miller, 957 F.2d 1375, 1381 (7th Cir.1992) ( "A fiduciary duty is the duty of
an agent to treat his principal with the utmost candor, rectitude, care, loyalty, and good faith--in fact
to treat the principal as well as the agent would treat himself."); * * *
As an agent and a fiduciary, Mr. Miller had the duty to act with the utmost loyalty and
fidelity towards his principal, INA, and was required by this fiduciary relationship to give the fullest
measure of service in all matters pertaining to the agency. Instead of acting with loyalty and fidelity
towards INA, Mr. Miller breached his fiduciary duty in numerous ways. First, he knew that
premiums were not being remitted to INA, but failed to inform INA, and did not cause the
remittance of premium payments to the insurer. Second, he participated in a double financing
scheme where the Hickman Agency withheld premiums from INA based on the representation to
INA that the premiums were to be paid in installments, when the Agency was already in possession
of the entire premium amount either from insureds or from premium financing companies on behalf
50
of insureds. He signed company checks to INA for installments due when in fact he had obtained
the entire premiums from premium financing companies (or from insureds) and kept this plan
concealed from INA--actions, which clearly demonstrate his awareness and participation in this
scheme. Third, when INAC requested premium funds back from the Hickman Agency, and there
was no money to pay the premiums because the money was out- of-trust, Mr. Miller directed the
premium financing of another account (Gunther's Leasing worker's compensation policy) expressly
for the purpose of repaying the premium due INAC on an unrelated policy. Fourth, consistently
throughout this relationship, Mr. Miller, who had knowledge of what was occurring, failed to
disclose his, and Hickman's, conflicting actions to INA. As we have said, "[i]t is an elementary
principle that fundamental duties of an agent are loyalty to the interest of his principal and the need
to avoid any conflict between that interest and his own self-interest." C-E-I-R, Inc. v. Computer
Dynamics Corp., 229 Md. 357, 366, 183 A.2d 374, 379 (1962) (quoting Maryland Credit v. Hagerty,
216 Md. 83, 90, 139 A.2d 230, 233 (1958)). Mr. Miller placed himself in a position where INA's
interests and his interests conflicted. As we discussed, supra, one of the primary obligations of an
agent to a principal is to disclose any information the principal may reasonably want to know. It is
safe to say that Mr. Miller's actions were not made with INA's best interests in mind and that INA
would reasonably want to have known of his actions while he was acting as its agent.
We therefore hold that the trial court erred when it ruled that appellee was not an agent of
INA for the purpose of collecting and forwarding premiums, and as a result did not breach any
fiduciary duties by failing to do so. To the contrary, Miller had knowledge of what was happening
and actively participated in a significant portion of the improper actions. In failing to share his
knowledge with INA, and by participating in the scheme, he breached his fiduciary duty to appellant.
C. The Negligence Claim
Appellant also presents the issue of whether Mr. Miller could be found negligent for his
actions surrounding the double financing scheme. While we hold that Mr. Miller knowingly and
intentionally breached his fiduciary duty to INA, we shall also address the issue of negligence, which
was presented in the appellant's brief. The trial court ruled that Mr. Miller, as an officer of the
Hickman Agency, could not be held responsible or personally liable in tort for the actions of the
Hickman Agency. The trial court's ruling was primarily based on Ferguson Trenching Co. v.
Kiehne, 329 Md. 169, 618 A.2d 735 (1993), where we held that generally, "[o]fficers and directors
of a corporation generally are insulated from personal liability for the debts of the corporation." Id.
at 175, 618 A.2d at 738. In Ferguson Trenching, we were construing Maryland's construction trust
statute, Maryland Code (1974, 1988 Repl.Vol., 1992 Cum.Supp.), sections 9-201 through 9-204 of
the Real Property Article. Because that holding was limited to the interpretation of a specific and
unrelated statute, Ferguson Trenching is, generally, inapplicable to the case at bar.
We hold that, under certain circumstances, an officer of a corporation may be held personally
liable for torts of the corporation in which the officer was personally involved. As we have said:
"The general rule is that the corporate officers or agents are personally liable for those torts which
they personally commit, or which they inspire or participate in, even though performed in the name
of an artificial body. Of course, participation in the tort is essential to liability. If the officer
takes no part in the commission of the tort committed by the corporation, he is not personally
51
liable therefor unless he specifically directed the particular act to be done, or participated or
cooperated therein. It would seem, therefore, that an officer or director is not liable for torts of
which he has no knowledge, or to which he has not consented. Thus, e.g., to make an officer of a
corporation liable for the negligence of the corporation there must have been upon his part such a
breach of duty as contributed to, or helped to bring about, the injury; he must have been a
participant in the wrongful act."
Metromedia Co. v. WCBM Maryland, Inc., 327 Md. 514, 520, 610 A.2d 791, 794 (1992) (citations
omitted).
Additionally, specific to insurance agents in a negligence claim, we have said:
Like conventional agents, an insurance agent must exercise reasonable care and skill in performing
his duties. And if such a representative fails to do so, he may become liable to those, including his
principal, who are caused a loss by his failure to use standard care.
Bogley v. Middleton Tavern, Inc., 288 Md. 645, 650, 421 A.2d 571, 573 (1980) (a case involving,
among other issues, the liability of an agent of a disclosed principal); see Jones v. Hyatt Ins. Agency,
Inc., 356 Md. 639, 657, 741 A.2d 1099, 1108 (1999) ("We have held that ' "an insured agent must
exercise reasonable care and skill in performing his duties" ' and that the agent may become liable in
tort to the principal who suffers ' "a loss by [the agent's] failure to use standard care." ' ") (alteration
in original); Popham v. State Farm, 333 Md. 136, 153, 634 A.2d 28, 36 (1993) ("The principal may
sue the agent, either in contract or for negligence in the performance of the duty imposed by the
contract."); see also Canatella v. Davis, 264 Md. 190, 206, 286 A.2d 122, 130 (1972); Lowitt &
Harry Cohen Ins. Agency, Inc. v. Pearsall Chemical, 242 Md. 245, 253, 219 A.2d 67, 72 (1966).
To establish a valid cause of action in negligence, a plaintiff must prove the existence of four
elements:
"(1) that the defendant was under a duty to protect the plaintiff from injury, (2) that the defendant
breached the duty, (3) that the plaintiff suffered actual injury or loss, and (4) that the loss or injury
proximately resulted from the defendant's breach of the duty."
Baltimore Gas & Elect. Co. v. Flippo, 348 Md. 680, 700, 705 A.2d 1144, 1153-54 (1998) quoting
Rosenblatt v. Exxon, 335 Md. 58, 76, 642 A.2d 180, 188 (1994). We have already established that
appellee was under a duty, as an agent and a fiduciary, to act in INA's interest. He had a special
relationship that, itself, imposed such a duty. By his failure to keep his principal informed and by
his active participation in the double financing scheme, appellee breached the duty. Appellee,
himself, actually and actively participated and directed at least a significant part of the events
constituting the breaches in issue. He was, individually, a tortfeasor. INA suffered actual injury by
not receiving premiums that should have been forwarded from the Hickman Agency trust account.
This loss proximately resulted from appellee's breach of duty. We therefore hold that the trial court
erred when it ruled that appellee was not negligent by obtaining premium financing for an insurance
premium of an INA insured, and using the funds to pay another premium financing company, instead
of paying the funds directly to INA for the premium due.
Conclusion
52
We hold that appellee was an agent of INA for the purpose of collecting and forwarding
premiums, which imposed upon him a fiduciary duty to INA, which he personally and actively
breached by failing to collect and forward such premiums to INA and by failing to convey to INA
his knowledge that the premiums at issue were being diverted from INA to the use of the Hickman
Agency. Additionally, appellee personally and actively breached his fiduciary duty to INA when he
obtained premium financing for an insurance premium of an INA insured, and used the funds to pay
another premium financing company, instead of paying the funds directly to INA for the premium
due. We also hold that appellee's actions in the double financing scheme could constitute
negligence. Accordingly, we reverse the ruling of the Circuit Court for Baltimore County and
remand the case to that court for further proceedings consistent with this opinion (the assessment and
rendering of judgment as to damages). [FN18]
FN18. As we have indicated, our holding in this case is based in substantial part on the fact
that the agent had actual knowledge that his principal's interests were being improperly,
adversely affected and failed to notify the principal, and is based, as well, on the fact that the
agent actively participated in the scheme to divert premium funds from the principal.
JUDGMENT OF THE CIRCUIT COURT FOR BALTIMORE COUNTY
REVERSED, AND CASE REMANDED TO THAT COURT FOR FURTHER
PROCEEDINGS CONSISTENT WITH THIS OPINION; COSTS PAID FOR BY
APPELLEE.
Southern Farm Bureau Cas. Ins. Co. v. Allen
388 F.2d 126 (5th Cir. 1967)
United States Court of Appeals Fifth Circuit.
SOUTHERN FARM BUREAU CASUALTY INSURANCE COMPANY, Appellant,
v.
Mrs. Cecil Harvey (Betty) ALLEN, A Feme Sole, et al., Appellees.
No. 23824.
Dec. 18, 1967.
WISDOM, Circuit Judge:
Southern Farm Bureau Casualty Insurance Company (Southern Farm) brings this diversity
suit for a declaratory judgment that an automobile liability insurance policy it had issued to George
53
Jezisek covering a 1960 model Chevrolet was void and that Southern Farm was relieved of all
liability in connection with that policy.
In October 1963 Joe Jezisek, a minor having a record of one previous accident and two
'moving' violations, traded his 1957 Pontiac for a 1960 Chevrolet. The insurance on the Pontiac,
issued by Southern Farm in his father's name, had expired. The bank holding the mortgage on the
Chevrolet required that the automobile be insured. Joe applied to Southern Farm for coverage
through a secretary at the Jack Wattenbarger Agency in Lamb County, Texas, an agency that had
handled some insurance matters for Joe's brother George E. Jezisek, who lived in Milam County.
The Lamb County office forwarded the application to the Southern Farm home office in Waco.
After an investigation of the applicant, Southern Farm rejected Joe's application for insurance and
returned his premium.
Both Joe and George Jezisek testified that on November 8, 1963, they spoke to Mr.
Wattenbarger who suggested (or approved their suggestion) that they put title to the car in George's
name for insurance purposes. This they did that same day. Wattenbarger, however, denied that the
conversation ever took place.
Later in the day, the brothers returned to the agency office and applied for insurance in
George's name through one of the secretaries in the office. A registration receipt, shown to the
secretary at the time she took the application, revealed that title was transferred on that day 'for
insurance purposes'. The application showed that the car would be kept in Spade, Texas, although
George lived in Milam County, several hundred miles away. The Jeziseks did not divulge that Joe
would be driving the car.
The secretary forwarded the policy to Milam, where George resided. The Milam County
agent, who was not aware of the transfer of title, signed the policy and sent it to the Waco office.
Since George Jezisek was already an approved insured, the main office, without further
investigation, issued the liability policy to George Jezisek as owner of the Chevrolet. George
received the policy and delivered it to Joe, who made all premium payments. Three months later Joe
Jezisek, while driving his Chevrolet, was in an accident that resulted in fatal injuries to Cecil H.
Allen.
Upon investigating the ownership of the automobile involved in the accident and finding that
Joe Jezisek was its exclusive owner and driver, Southern Farm notified all interested parties that the
policy was void ab initio and tendered to George Jezisek the amount of the paid premiums.
The trial court rendered judgment against Southern Farm in favor of the Jeziseks and the
deceased's widow and *129 children on the finding that Jack Wattenbarger, Southern Farm's agent,
was aware of 'the expedients which ensued in quest of the insurance needed by Joe C. Jezisek.' The
court held that this knowledge was imputed to Southern Farm. Southern Farm therefore was
estopped from voiding the liability policy, and the declaratory judgment was denied. We reverse.
I.
54
The first issue on appeal concerns the district court's finding of fact: 'The plaintiff's agent,
Wattenbarger, was in close touch by taking part and being aware of the expedients which ensued in
quest of the proper insurance needed by Joe C. Jezisek to make his required compliance with law.'
Southern Farm points out that Wattenbarger would receive no commission on the policy
issued to George. Also, Wattenbarger testified that he did not meet with the Jeziseks on the day the
application for insurance in George's name was sent in; in fact, he emphatically denied that he ever
met George Jezisek until after the accident in February 1964. By the same token, both Jeziseks were
positive about having discussed the transfer of title with Agent Wattenbarger before making
application later that day. Thus, despite Wattenbarger's own testimony, there is evidence in the
record that would support the court's finding of fact. Accordingly, we consider that this finding is not
clearly erroneous.
It is undisputed that Wattenbarger did not actually transmit to Southern Farm any suggestion
of the misrepresentation involved in the application, of which he was held to have had actual
knowledge. Southern Farm, therefore, had no direct notice of them. The primary issue, then, is
whether the knowledge of Wattenbarger is imputed to Southern Farm to estop it from voiding the
policy on the basis of the misrepresentations in the application. The district court answered this
issue in the affirmative; we do not.
II.
We turn now to Texas law to ascertain the principles governing imputation of knowledge of
an insurance agent to his principal, the insurance company. For if the agent's knowledge of the
falseness of a statement of a material fact in the application of insurance [FN1] is not imputable to
the company, then under well-established authority the company may avoid liability under the
policy. [FN2]
* * *
A. If Wattenbarger had no authority to bind Southern Farm by his activity as its agent in the
issuance of the policy here in issue, then any knowledge he may have obtained concerning material
misrepresentations in the application could not be imputed to the company.
* * *
The rule is well settled in this state that where, as the facts show in this case, an insurance
agent with authority to solicit business, to make and forward the application for insurance, to collect
and transmit premium, and to deliver the policy of insurance, notice to him of any matter affecting
the risk involved, and required to be placed in the application, is notice to the insurer; and the insurer
will not be permitted to deny liability on the policy on account of the neglect, failure, or fraud of the
agent in not informing the insurer of such matters. Washington Nat. Ins. Co. v. Brock,
Tex.Civ.App.1933, 60 S.W.2d 861, 862, and cases cited therein.
55
*131 B. 'The authorities are uniform to the effect that a principal is not affected by notice to an
agent who is acting adversely to the interests of his principal, and either for his own benefit or for the
benefit of a third party.
* * *
Plaintiff had alleged collusion between Weatherby and the assured and her husband to obtain
the policy on false representations * * *. It is ordinarily true that a principal is affected with notice
of such facts as come to the knowledge of his agent in the course of his business. When an agent,
however, ceases to act for his principal in good faith and through collusion with another, desiring
through him to cheat and defraud the principal, practically enters into the service of that other for the
purpose of promoting the interest of that person, or the common interest of himself and that other, in
fraud of his principal, then the person who so avails himself of the services of such an agent cannot
claim that his act or his knowledge in reference to matters to which the fraudulent collusion relates
are binding on the person intended to be defrauded. In such a case, the agent pro hac vice becomes
the agent of the person he collusively serves. * * * If a person colludes with an agent to cheat the
principal, the latter is not responsible for the acts or knowledge of the agent. The rule which charges
the principal with what the agent knows is for the protection of innocent third persons, and not those
who use the agent, to further their own frauds upon the principal. [FN6]
FN6. 'The general rule which imputes an agent's knowledge to the principal is well
established. The underlying reason for it is that an innocent third party may properly
presume the agent will perform his duty and report all facts which affect the principal's
interest. But this general rule does not apply when the third party knows there is no
foundation for the ordinary presumption,-- when he is acquainted with circumstances plainly
indicating that the agent will not advise his principal.' Mutual Life Ins. Co. v. Hilton-Green,
1916, 241 U.S. 613, 623, 36 S.Ct. 676, 680, 60 L.Ed. 1202, 1211; see Ohio Millers' Mutual
Ins. Co. v. Artesia State Bank, 5 Cir. 1930, 39 F.2d 400, 402; 3 C.J.S. Agency ' 262, at 196
(1936).
* * *
Whenever, as here, the party contending for the validity of a policy has himself participated
in perpetrating the fraud pursuant to which the policy was issued, Texas courts have consistently
denied recovery. If he cannot prove that the insurer's agent knew of the scheme-- or knew of the
false representations-- then he cannot show that the insurer has sufficient knowledge to estop it from
voiding the policy. If he does prove complicity of the agent in the scheme and knowledge of the
misrepresentations, he has proved too much: The agent then becomes involved in collusion against
his principal and knowledge of the agent will not be imputed to his principle. we hold that the latter
situation existed in this case.
*133 We reverse the judgment of the district court and render judgment for the plaintiff in this
action, declaring Southern Farm not liable on the policy issued on the 1960 Chevrolet in the name of
George Jezisek.
56
Sutton Mutual Ins. Co. v. Notre Dame Arena, Inc.
108 N.H. 437, 237 A.2d 676 (1968)
SUTTON MUTUAL INSURANCE COMPANY
v.
NOTRE DAME ARENA, INC.
No. 5624.
Supreme Court of New Hampshire.
Argued Sept. 6, 1967.
Decided Jan. 30, 1968.
LAMPTRON, Justice.
On February 6, 1966 the defendant had rented its arena for a fee of $100 to the Berlin
Maroons, a local hockey team, for an afternoon game with the Manchester Black Hawks. The
defendant 'simply rent(s) the facilities of the Arena for the purpose of the game' and has its own
manager for the restaurant and furnishes two ice-tenders. The Maroons hire their own ticket sellers
as well as police officers to maintain order and supervise what is going on in the arena. The
defendant has 'nothing to do in which way either of the teams play hockey' and has 'no
responsibilities in that respect.'
Florence Ploude who was a spectator at this game was struck by a puck. As a result of an
announcement over the public address system she was treated by Dr. Couture who was present
'watching a hockey game.' He gave her a preliminary examination on the premises and sent her
**678 to a Berlin hospital for x- rays which disclosed a fractured jaw. Dr. Couture was in no way
connected with the defendant and never informed 'any member of the corporation or any member of
the Board of Directors of Notre Dame Arena of this accident on the premises of the arena. * * * I
don't know who the Board of Directors is.'
There is no evidence that Florence Plurde or her husband Joseph, the plaintiffs in the tort
actions in question, ever notified the defendant of this accident.
A few days before service of the writs in those actions, which took place on May 25, 1966,
an attorney telephoned J. L. Blais, *439 Esq., secretary of the defendant corporation, to advise him
that suit would be brought against the defendant and that service was to be made on him. 'No further
detailed information was given to me * * * with respect to the nature of the claim, the time of the
accident or the identity of the claimants.' By letter dated the day after such service of writs on him.
Attorney Blais notified plaintiff of these actions and at about the same time also notified the
57
Chairman of defendant's Board of Directors Rev. LeClerc. Mr. Blais' letter was the first notice of
this accident received by the plaintiff.
Condition 9 of plaintiff's policy reads as follows: 'Notice of Accident. Whenever an accident
occurs written notice shall be given by or on behalf of the insured to the company or any of its
authorized agents as soon as practicable. Such notice shall contain particulars sufficient to identify
the insured and also reasonably obtainable information respecting the time, place and circumstances
of the accident, the names and addresses of the injured and of available witnesses.'
The purpose of such a provision is to give the insurer an opportunity to make a timely
investigation of the incident and to prepare an adequate defense on behalf of the insured. 13 Couch
on Insurance 2d, s. 49:321, p. 804; Annot. 18 A.L.R.2d 443, 451. This is a reasonable and valid
stipulation which must be complied with by the insured in order to obligate the insurer to defend and
pay under the terms of its policy. Brown v. Security Fire and Indemnity Co., 244 F.Supp. 299, 304
(D.C.Va.1965). See Fitch Company v. Continental Insurance Company, 99 N.H. 1, 3, 104 A.2d 511.
A material and substantial breach of this provision by the insured destroys its right to claim
indemnity under the policy. Glens Falls &c. Co. v. Keliher, 88 N.H. 253, 258, 187 A. 473;
American Employers Ins. Co. v. Sterling, 101 N.H. 434, 146 A.2d 265; Lumbermens Mutual
Casualty Co. v. Stamell Constr. Co., 105 N.H. 28, 192 A.2d 616; 6 Williston on Contracts (3d ed.)
ss. 812, 813.
'A policy requirement that notice of the accident be given 'as soon as practicable' is
commonly considered to require notice as soon as is reasonably possible' (American Employers Ins.
Co. v. Sterling, 101 N.H. 434, 437, 146 A.2d 265, 267), which is generally interpreted to call for
notice to be given within a reasonable time in view of all the facts and circumstances of each
particular case. Farmers N.B. of Ephrata v. Emp. L.A. Corp., 414 Pa. 91, *440 93, 199 A.2d 272;
Hendry v. Grange Mutual Casualty Co., 372 F.2d 222, 225 (5th Cir. 1967); Cinq-Mars v. Travelers
Insurance Company, 218 A.2d 467, 471 (R.I.1966); 13 Couch on Insurance 2d, s. 49:328, p. 807; 8
Appleman, Insurance Law and Practice, s 4734, p. 22; 7 Am.Jur.2d, Automobile Insurance, s. 143,
pp. 470, 471. See Duggan v. Travelers Indemnity Company, 265 F.Supp. 819, 821
(D.C.Mass.1967); Segal v. Aetna Casualty & Surety Co., 337 Mass. 185, 187, 188, 148 N.E.2d 659.
The timeliness of the notice must be determined in the light of the situation existing both
when the accident occurred and when the notice was given. Young v. Travelers Ins. Co., 119 F.2d
877, 880. In deciding whether notice of the accident **679 was given within a reasonable time, the
following circumstances, among others, are to be considered: the length of the delay in giving notice,
the reasons for it, and the probable effect of the delay on the insurer. 8 Appleman, Insurance Law
and Practice, s 4734, p. 29. Thus the absence, or extent, of prejudice to the insurer caused by the
delay are factors to be considered in determining whether the insured has complied with the policy
condition by giving notice within a reasonable time or has committed a substantial breach thereof by
failing to give notice as soon as practicable. Glens Falls &c. Co. v. Keliher, 88 N.H. 253, 261, 187
A. 473; Pawtucket Mut. Ins. Co. v. Lebrecht, 104 N.H. 465, 471, 472, 190 A.2d 420; Brown v.
Security Fire and Indemnity Co., 244 F.Supp. 299, 305 (D.C.Va.1965).
The burden is on the insured to prove that notice of the accident was given as soon as
practicable as required by the policy condition. Travelers Ins. Co. v. Greenough, 88 N.H. 391, 393,
58
190 A. 129, 109 A.L.R. 1096; Standard &c. Ins. Co., v. Gore, 99 N.H. 277, 280, 109 A.2d 566;
American Fidelity Co. v. Hotel Poultney, 118 Vt. 136, 138, 102 A.2d 322; Meierdierck v. Miller,
394 Pa. 484, 147 A.2d 406; 13 Couch on Insurance 2d, s. 49:330, p. 807. 'Unless the circumstances
are such that no reasonable man could find that notice was given as soon as was reasonably possible,
the question of whether the policy requirements as to notice have been met is a question of fact for
the Trial Court.' Pawtucket Mut. Ins. Co. v. Lebrecht, supra, 470, 190 A.2d 424.
The Trial Court properly found that Father LeClerc, Chairman of the Board of Directors of
defendant, J. L. Blais, its secretary, *441 and Father Cote, its treasurer, were not present at the arena
at the time of the accident and had no knowledge whatever concerning the accident until or shortly
prior to service of the writs on May 25, 1966.
Dr. Danais was president of the defendant corporation and his principal duty under the ByLaws was 'to preside at all meetings of the members of the corporation.' He testified that he arrived
at the arena after the accident had taken place. Somebody told him someone had been hurt. He went
upstairs and saw 'the lady' and learned she had been hit by a puck and that she had been treated by
Dr. Couture. There was nothing 'obvious about her appearance.' 'She was sitting on the bench there
with a heavy coat, and I didn't see any marks. I did not examine her. * * * She was sitting there, and
I just walked away.' He did not know she had fractured her jaw until a few days before the hearing
in these proceedings.
Since a corporation can act only through its officers, agents and employees, it is necessarily
chargeable with the knowledge of its officers and agents acting within the scope of their authority.
Sawyer v. Mid-Continent Petroleum Corporation, 236 F.2d 518, 520 (10th Cir.1956); 19 Am.Jur.2d,
Corporations, s. 1263, p. 669. However a corporation is not affected by the knowledge of an officer
who had no duty to act upon or report it. Allstate Insurance Co. v. Culver, 100 N.H. 16, 20, 117
A.2d 330; Rice v. Taylor, 220 Cal. 629, 637, 32 P.2d 381; Restatement (Second), Agency, s. 275,
comment d; 2 Pomeroy, Equity Jurisprudence (5th ed.) s. 668. The Trial Court properly found that
Dr. Danais attended this hockey game not in his capacity as president of the defendant but merely as
one of many spectators. The evidence failed to establish a duty on him as president of the defendant
corporation to report this accident to anyone. Knowledge which might come to him as a private
person and beyond the range of his official duties is not notice to the corporation. Allstate Insurance
Co. v. Culver, supra; 19 Am.Jur.2d, Corporations, s. 1263, p. 670.
Father Samson was assistant treasurer of defendant corporation, general manager and
supervisor of activities at the arena. He was in New York on the day of the accident and returned to
Berlin late **680 that evening. He testified that he first learned 'officially' of Mrs. Plourde's injury
when he was told of the recipt of a letter *442 from the insurance company by Father LeClerc. He
further testified being under the impression of having heard 'vaguely' about the accident but cannot
say exactly when or from whom. 'Who it was, I don't know, or how badly she got hurt, I don't
know.' It never 'came to my mind' to make an investigation to determine 'whether the lady was
injured, who her physician was, and who treated her, etc.' 'If I had known of the name of this person
and if I had known that this person was hurt, I would have reported to the insurance company.' 'I had
nothing to report. I had no information, substantial information' before he was informed that suit had
been brought. The evidence did not compel a finding that Father Samson had knowledge of the
accident before suit or the duty to pursue and investigate the rumors which he was under the
59
impression of having heard. The Trial Court could properly find him justifiably ignorant of the
accident until suit was instituted by the plaintiffs. Hull v. Hartford Fire Insurance Company, 100
N.H. 387, 392, 128 A.2d 210. Cf. American Employers Ins. Co. v. Sterling, 101 N.H. 434, 146 A.2d
265; American Fidelity Co. v. Schemel, 103 N.H. 190, 168 A.2d 478; Employers Liability Assur.
Corp. v. New Hampton School, 103 N.H. 185, 168 A.2d 119.
The Trial Court found 'that the defendant corporation, prior to May 26, 1966, had no
knowledge or reliable data as to the fact of injury, name of the injured party and/or the existence of a
potential claim resulting from the accident of February 6, 1966. The Court further finds that the
defendant lacked knowledcge of the essential elements of the occurrence of February 6, 1966, until
May 25, 1966, or shortly before, when its agent, Mr. Blais, received a call from counsel for the
Plourdes. It is further found that this lack of knowledge was not the result of or attributable to any
conduct and/or actions of the defendant. On the contrary, the extenuating and surrounding
circumstances were such that reasonable excuse existed for the initial delay in notifying the plaintiff
until such time as the fact of injury had been disclosed to the defendant by virtue of the abovereferred call to its secretary. * * * After receipt of such notice, the defendant notified the plaintiff as
soon as practicable (May 26, 1966).'
The Trial Court further found that: 'Under all the circumstances * * * the defendant
reasonably complied with the terms of Condition 9 of the policy construed as a whole. * * * This
*443 notice (of May 26, 1966) was seasonable and the prior delay justifiable under all the
circumstances. The intervening delay of approximately three months and twenty days was not, on
the state of the record, of such duration so as to prejudice the rights of the plaintiff.'
The Trial Court's findings were warranted by the evidence. We cannot say as a matter of law
that on the totality of the circumstances duly found by the Trial Court no reasonable man could
conclude that notice was given as soon as practicable as required by the policy. Pawtucket Mut. Ins.
Co. v. Lebrecht, 10 4 N.H. 465, 190 A.2d 420. Cf. American Employers Ins. Co. v. Sterling, 101
N.H. 434, 146 A.2d 265; American Fidelity v. Schemel, 103 N.H. 190, 168 A.2d 478.
Exceptions overruled.
All concurred.
Georgia-Pacific Corp. v. Great Plains Bag Co.
614 F.2d 757 (Patent Appeals, 1980)
United States Court of Customs and Patent Appeals.
GEORGIA-PACIFIC CORP., Appellant,
v.
GREAT PLAINS BAG CO., Appellee.
60
Appeal No. 79-544.
Jan. 24, 1980.
BALDWIN, Judge.
* * *
Background
Great Plains filed an application for registration of the mark for use on paper and plastic bags
on January 23, 1970, alleging a first use of September 1, 1961. The registration was issued on June
8, 1971.
Georgia-Pacific petitioned for cancellation of the mark on July 11, 1973, on the grounds that
it had been and is still engaged in the manufacture and sale in interstate commerce of a variety of
forestry products including, specifically, paper bags and Kraft paper; it is owner of the trademark GP, which mark has been used extensively as a portion of its corporate logo and on its various goods
long prior to Great Plains' first use in 1961; it is the owner of registrations for a number of marks
containing the letters G-P for use on lumber *759 and plywood. Finally, Georgia-Pacific alleged
that Great Plains' mark, as used on paper and plastic bags, so resembles its own mark as applied to
its goods as to be likely to cause confusion, mistake or deception regarding the source of the goods.
Great Plains averred that Georgia-Pacific was barred from bringing the cancellation
proceeding by reason of laches and estoppel. It argued that since the parties had engaged in various
business dealings since 1962, including the sale of Kraft paper by Georgia-Pacific to Great Plains,
Georgia-Pacific knew, or should have known, of its use of the mark in its corporate logo (said logo
appearing on its bags, stationery and envelopes since 1961). Georgia-Pacific's failure to object to the
use of the logo and the subsequent increase in its use results in Georgia-Pacific now being estopped
from asserting a likelihood of confusion between the respective marks and from asserting that it
would be damaged by this registration.
Board
The board found that Georgia-Pacific's use of the designation G-P has been well known in
the lumber industry since the late 1940's both as an identification of the corporate entity and a trade
designation identifying its marketed products.
The board admitted into evidence a survey (conducted for use in another proceeding) which
tended to show that the verbal letters G-P were recognized, both by sixty percent of a group of
executives from various paper purchasing companies and additionally by twenty-five percent of a
group of regular readers of the Wall Street Journal, as a term representing Georgia-Pacific. Great
Plains objected to admission of the survey on the basis of hearsay since without the inclusion of the
interview sheets and recorded responses, the accuracy of the survey could not be verified. The
individuals who conducted and designed the survey were deposed and made available for crossexamination. The board concluded that the survey should be admitted for consideration of the
61
probative value to be attached thereto. The survey was qualified to sustain a recognition of G-P with
Georgia-Pacific in the paper industry.
The board indicated that it is well settled in trademark law that the defenses of laches and
estoppel are based on the concept that the owner and prior user of a mark having actual or
constructive notice of another party's use of the same or similar mark for like or similar goods must
be persevering. He must not sit on those rights for an exorbitant length of time and allow the
subsequent user to build up a business and good will associated with such mark before taking action
against that use.
To prove the defense of laches one must make a showing that the party, against which the
defense is asserted, had actual knowledge of trademark use by the party claiming the defense or at
least a showing that it would have been inconceivable that the party charged with laches would have
been unaware of the use of the mark. Loma Linda Food Co. v. Thomson & Taylor Spice Co., 279
F.2d 522, 47 CCPA 1071, 126 USPQ 261 (1960).
The board indicated that circumstantial evidence appeared to be overwhelming on the
concept that Georgia-Pacific must have been aware of Great Plains' use of its logo containing the
letters G-P.
The board detailed the evidence by Great Plains which would show the requisite knowledge.
It pointed out that a vice-president of Georgia-Pacific visited the president of Great Plains to discuss
a joint venture. A large corporate logo was present on a wall behind the receptionist's desk at the
time of that visit. Numerous visits by salesmen and sales managers of Georgia-Pacific to two of
Great Plains' locations were catalogued. Each salesman would have had to pass a large outside sign
bearing Great Plains' G-P logo. Several sales of paper were made by Georgia-Pacific to Great
Plains. Great Plains picked up the paper in trucks bearing the corporate logo, paid for it using
checks using the corporate logo, and confirmed several of its telephone orders using purchase orders
bearing the corporate logo.
*760 Georgia-Pacific argues that Great Plains has produced evidence showing only that lower
echelon employees (clerks, bookkeepers, dock workers) might have seen Great Plains' usage of the
mark. Since no employee specifically charged with policing trademark infringement matters saw the
usage, a corporation as large as Georgia-Pacific should not be charged with such knowledge. The
board concluded that notice to a corporation via its sales personnel constitutes sufficient notice for
the support of the equitable defenses of laches. Alternatively, the absence of question by the sales
force concerning that mark's usage was considered as evidence that no likelihood of confusion
exists.
Finally, the board considered the parties' respective marks on paper bags. Great Plains' mark,
it is said, being a distinctive design mark, requires some effort to discern the letters G-P. For that
reason, the board found "considerable doubt" existed that a prospective purchaser would equate the
two marks or even form an association between them.
The board therefore concluded that the differences in the marks were sufficient to make the
question of likelihood of confusion reasonably debatable and therefore to give effect to Great Plains'
62
equitable defenses. Georgia- Pacific was held guilty of laches and estopped from asserting that it is
and will be damaged by Great Plains' registration.
OPINION
* * *
It must be remembered that Great Plains' trademark consists of highly stylized letters and is
therefore in the gray region between pure design marks which cannot be vocalized and word marks
which are clearly intended to be. In re Burndy, 300 F.2d 938, 49 CCPA 967, 133 USPQ 196 (1962).
Even accepting the argument that the mark could be verbalized, such is not the end of the inquiry.
Verbalization of the mark must be considered within the environs of the marketplace. The testimony
of Mr. Naudain, vice-president of Georgia-Pacific, Mr. Pomerantz, former president of Great Plains,
and Mr. Stearley, current president of Great Plains showed them to be in general agreement that
purchasers in this market are of a fairly discriminating nature.
* * *
The record makes it quite clear that Georgia-Pacific was the first to use its mark G-P. The
only evidence supporting the argument that the mark is famous appears to be the 1972 survey
produced in conjunction with another matter. That survey only produced a discernible connection
between the verbalized letters G-P and Georgia-Pacific in the paper industry. However, that is not
the issue. The question to be resolved is the existence of a likelihood of confusion regarding the
respective trademarks, not their verbalization. Even giving this survey all possible weight, it does
not appear to show the mark to be so famous as to bridge the gap between the G-P and Great Plains'
stylized mark and to create confusion.
* * *
In the case at hand, Great Plains has introduced significant circumstantial proof [FN2] that on
a number of occasions salesmen from Georgia-Pacific were exposed to the corporate logo during the
course of their duties in selling Kraft paper to Great Plains and knew that that paper was to be *763
used in the production of bags.[FN3] Georgia-Pacific argues that only its lower echelon personnel
were said to have observed Great Plains' use of the mark. We agree that knowledge of mark usage
gained by bookkeepers in receiving checks and dock workers in loading Great Plains' trucks should
not normally be imputed to the corporation. Their duties are not of the type that would require
sensitivity of the value of their employer's marks in the marketplace. However, salespeople produce
the "stuff" of which a corporation's "good will" is made. Salespeople, if they are to be effective,
must be present in the marketplace and cognizant of the various factors that effect present and future
sales. Product "good will" is one such factor. A corporation which employs a professional
salesperson who has knowledge of an offending trademark use will have imputed to it the knowledge
of that employee. Dawn Donut v. Hart's Food Stores, 267 F.2d 358, 363, 121 USPQ 430, 434 (2d
Cir. 1959).
* * *
63
Other evidence tending to show Georgia-Pacific's "corporate" awareness of Great Plains' use
of the mark include Stearley's testimony [FN4] that Great Plains sold a significant number of multiwall bags to Georgia-Pacific and that virtually all multi-wall bags produced by Great Plains had a
logo imprinted thereon. In total, over thirty transactions (including nine sales of paper) took place
between 1962 and 1969.
* * *
The totality of the evidence points to the existence of constructive knowledge by GeorgiaPacific of Great Plains' use of the mark.
It is well settled that one who charges estoppel by laches must also show that it suffered or
will suffer detriment as a result of inaction by the party against which laches is charged. United
States v. Alex Dussel Iron Works, 31 F.2d 535 (5th Cir. 1929). Great Plains has shown that sales of
its goods under the logo in question have grown from $372,000 in 1961 to about $28,000,000 in
1973. It is this extent of sales over a protracted length of time without complaint from GeorgiaPacific upon which Great Plains relied to its detriment. Any change in trademark status at this point
would be to the prejudice of Great Plains.
Conclusion
In sum, we hold the likelihood of confusion between the marks as applied to their respective
goods unlikely and further hold that Georgia- Pacific is estopped from asserting such likelihood.
Therefore, we affirm the decision of the board.
AFFIRMED.
Lane Mtg. Co. v. Crenshaw
93 Cal.App. 411, 269 P. 672 (1928)
District Court of Appeal, First District, Division 1, California.
LANE MORTG. CO.
v.
CRENSHAW ET AL.
Civ. 6169. [FN*]
FN* Rehearing denied. Hearing denied by Supreme Court.
Aug. 3, 1928.
64
Rehearing Denied Sept. 1, 1928.
Hearing Denied by Supreme Court Oct. 1, 1928.
PARKER, Justice pro tem.
In this action plaintiff seeks injunctive relief to secure the benefits to which it alleges itself
entitled under a certain written contract. As a part of the same action plaintiff asks the court to
declare the legal rights and duties of the respective parties under the said contract.
The court below denied the injunctive relief sought and declined to enter any declaratory
judgment.
The plaintiff appeals from the judgment of the lower court and from the order denying its
motion for a new trial.
The case presents two main points. We are called upon to determine whether or not the
contract about which the controversy centers confers upon plaintiff a power coupled with an interest,
and, further, to determine the application of the sections of our Code providing for declaratory
judgments. Without attempting at this point to make any determination of either question it is
readily apparent that the application of the law in each of the issues must depend to a large extent
upon the facts as disclosed. Therefore we must in some detail recite the record.
In September, 1921, certain parties, called for convenience the Stolls, were the owners of a
lot or parcel of land in the city of Los Angeles located at the corner of Spring and Eighth streets in
said city. In passing it might be added that this property was then of great value and since that time
the value has been greatly enhanced. On September 1, 1921, the Stolls, as the owners of said lot,
entered into a certain agreement of lease with a corporation known as San Joaquin Valley Hotel
Corporation. The terms of the lease, as they are material to the present controversy, are as follows:
The period of the lease is 99 years from the date thereof and **674 the rental is $1,000 per month.
The lessee, hereinafter referred to as Hotel Company, agrees to pay, in addition to the rent reserved,
all rates, taxes, charges for revenue or otherwise, assessments and levies, general and special,
ordinary and extraordinary, including *414 water rates, gas and electric light and power rates,
lighting, street work, sanitary and safety requirements which may be charged, assessed, levied or
imposed upon the land or any buildings or improvements placed thereon. It is further provided that
the lands and improvements shall always be assessed in the name of the Stolls, lessors, providing
such manner of assessment is permitted under the laws relating thereto. The receipts for taxes paid
must be delivered to the lessors at least five days before the date whereon taxes become delinquent.
The Hotel Company further agrees to commence the erection of a building on or before one year
from date of possession, and to erect, furnish and complete the same with reasonable diligence at its
own cost and expense, and in any event to have the same completed and ready for occupancy on or
before September 1, 1926, fully paid for and free from all liens, compensation claims, or other
construction claims liable to ripen into any lien on said premises; provided, however, that the
obligation of the Hotel Company to complete the said building at its own cost and free from liens
shall not be construed as to prevent the Hotel Company from mortgaging or otherwise hypothecating
its interest in this lease or its interest in the demised premises for the purpose of obtaining money
with which to pay for the erection of said building, nor shall it prevent the erection of said building
65
in accordance with the terms of the lease by a subtenant of the Hotel Company. The building to be
constructed on the property shall cover substantially the entire lot; shall be a class A reinforced
concrete or steel structure, as the term "class A" is defined by the ordinances of the city of Los
Angeles. It shall be a loft building with at least twelve stories and a finished basement, and shall
actually cost and be reasonably worth when constructed not less than $250,000, and constructed in
every respect in accordance with all laws and regulations affecting such construction in force at the
time and during the construction. The Hotel Company further agrees that it will keep insured in
standard solvent fire insurance companies, approved as such by the lessors, during the demised term,
any and all buildings or improvements that may be built or placed upon the premises to an amount of
not less than 70 *415 per cent. of the cost of said buildings or improvements, and if the Hotel
Company erects a building on said premises fully complying with the requirements of what is known
as a class A fireproof building, then said insurance shall not be less than 40 per cent. of the cost of
said building. All policies of insurance are to be issued to both parties, as their interest may appear,
and the policies themselves deposited with the Los Angeles Trust & Savings Bank (hereby
designated as trustee) for the purposes following, to wit: The same to be held by the trustee as
additional security for the rent and the rebuilding, in the case of destruction. The Hotel Company
agrees that in the event of the substantially total destruction of said premises by fire on or before
September 1, A. D. 2017, immediately upon the payment of the insurance moneys received to the
trustee, the Hotel Company will within 30 days thereafter advance and pay to the trustee the
difference between the amount of insurance received and the sum of $250,000, which said latter sum
is to constitute a trust fund for the payment of the rents under the lease as well as the rebuilding of
the premises. All and every sum or sums of money which shall be received by the Hotel Company
from insurance upon the building, except so much thereof as must be applied to the payment of rent
due and to accrue, shall be laid out and expended by it in rebuilding or repairing said building, and in
case the Hotel Company shall not have advanced the funds necessary to bring said insurance moneys
up to $250,000, if said destruction occurs prior to September 1, A. D. 2017, or shall fail to restore or
repair such building at the time and in the manner specified, then it shall be lawful for the lessors to
declare such term ended, and the buildings on the premises shall at once be forfeited to the lessors,
and any insurance money remaining in the hands of the trustee shall be paid to lessors. In case the
Hotel Company neglects to insure and keep insured the buildings and improvements then the lessors
may at their election procure the insurance and add the amount of the premiums to the installment of
rent next due with interest at 7 per cent. per annum. The Hotel Company further agrees that the
premises and building or buildings which may at any time be thereon shall be used by the lessee only
and exclusively for proper *416 and legitimate purposes. And it is expressly covenanted between
the parties that the Hotel Company will not use or consent to the use in any manner whatsoever of
the demised premises, or any buildings or improvements thereon, nor any portion thereof, for any
purpose calculated to injure the said premises or the neighboring property, nor for any purpose or use
in violation of federal or state laws or ordinances of the city of Los Angeles, or for any unlawful
purpose whatsoever, or for any trade, business, occupation or vocation whatever which may in
anywise be unlawful. And the Hotel Company will at its own costs and charges keep the buildings,
sidewalks, steps and excavations under the sidewalks in good, safe and secure condition, and will
from time to time at its own expense make all structural alterations, changes, or repairs which may
be **675 by law required in connection with the use, or by reason of any use to which said building
is put, or by reason of its maintenance.
66
It is agreed that upon conditions not necessary to enumerate the lease may be assigned, and
the agreement gives notice that any assignment not in strict conformity with the provisions thereof
shall be null and void, and provided further that the assignee shall take subject to all conditions,
covenants, agreements, and obligations to be performed by the Hotel Company. It is agreed,
covenanted, and understood between the parties thereto that in case at any time default shall be made
by the Hotel Company in the payment of any rent provided for upon the day the same becomes due
or payable, and such default shall continue 30 days after written notice to the Hotel Company, or in
case at any time default shall be made by the lessee in payment of any taxes, charges, or assessments
levied or assessed against said property, and such default shall continue for 30 days after notice
thereof in writing by the lessors to the Hotel Company, then in any or either event it shall be
immediately lawful for the lessors at their election to declare said demised term at an end and enter
into said demised premises and the buildings or improvements situated thereon or any part thereof,
and, with process of law, to re-enter and remove all persons therefrom.
Thereafter follow provisions granting the right of re-entry on failure of Hotel Company to
keep the buildings insured, *417 and providing further that such default may be cured by full
compliance with these terms within six months after re-entry following default.
It is mutually covenanted and agreed that the various rights, powers, options, elections,
appointments, and remedies of the lessors contained in the lease shall be construed as cumulative
and no one of them as exclusive of the other or exclusive of any rights or priorities allowed by law.
This agreement and lease was duly acknowledged by the parties executing the same, being all
of the parties thereto, and was recorded in the official records of Los Angeles county on November
29, 1921.
It will be readily observed that the main scheme of this lease and agreement was to improve
the land by the erection of a building appropriate to the location of the lot.
On December 31, 1921, the Hotel Company made and entered into a lease and agreement
with Lane Mortgage Company, a corporation, plaintiff herein. For identification this corporation
will hereinafter be referred to as the Lane Company. This agreement recites the execution of the
lease between Stolls and the Hotel Company, and recites further the obligation of the Hotel
Company to erect a building, and also that the Hotel Company is about to commence the
construction of the building in accordance with the terms of the lease. The agreement then
specifically states as follows:
"Whereas, said lease is valuable to the San Joaquin Valley Hotel Company, party
of the first part herein, and was procured for it by the Lane Mortgage Company,
party of the second part herein, and said last named company has agreed to
finance the construction of said building by loaning to the party of the first part
the sum of $250,000 for the purpose of erecting said building, taking as security
certain bonds secured by deed of trust thereon: Now, therefore, in consideration
of the premises and the procurement of the lease aforesaid and the financing of
said building as aforesaid, and as part of one and the same transaction, and in
further consideration of the sum of $10, the said party of the first part does
67
hereby lease and let to the party of the second part, its successors and assigns, the
entire second floor of the building to be erected on the premises above described;
to have and to hold said second floor of said building for the term of 20 years
*418 commencing on October 1, 1922, or from the date of the completion of said
building if the same is not fully completed on said date, without further payment
of rent for said term."
Then follow the terms and conditions upon which the lease is given, made, and executed, viz.:
(1) The second floor shall be completely finished by Hotel Company, including hall
partitions, toilets, janitor rooms, lighting fixtures, etc.
(2) Hotel Company during term of lease shall furnish without charge during term of
lease elevator service, water, and heat.
(3) That no part of said building shall be leased or rented for manufacturing or other
purposes during said term that will be a detriment to a high-class loft building in the
financial district.
(4) That tenants occupying other portions of said building during the term of this
lease shall have no advertising privilege except from their names on the directory of
the building and lettering on the windows, such signs and lettering to be approved by
Lane Company.
(5) The Hotel Company will keep the building in first-class repair and condition at
its own expense, including all plumbing.
(6) Lane Company to make any desirable changes on second floor and install vaults,
fixtures, etc., with right to remove the same.
(7) Lane Company will not permit improper use of building or use that will disturb
or injure other tenants.
(8) Provides for rights in case of destruction of building.
(9) Provides for month to month tenancy upon holding over after expiration of term.
The agreement and lease then further provides:
"For the consideration aforesaid and as part of the same transaction said Hotel
Company does hereby appoint and employ said Lane Mortgage Company its sole
and exclusive agent **676 for the management of said building so to be erected
from the completion of the same to the 1st day of October, 1942, with full power
and authority to collect all rentals thereon and pay all operating expense, taxes,
insurance, ground rental, interest on bonds and bonds as they mature out of the
money collected, and procure or write all fire and earthquake *419 insurance
agreed to be carried by the Hotel Company, and the Hotel Company agrees to
carry insurance of each of said classes amounting to at least $250,000 each for
the protection of the Company and the bondholders, and the Hotel Company
agreed to pay the Lane Company for such services a commission of 5 per cent. of
gross rentals and the regular brokerage paid insurance agents, it being understood
and agreed that the agency and employment aforesaid shall be irrevocable during
the time aforesaid except for willful misconduct on the part of said party of the
68
second part, and that all supervision and agency of the Lane Company shall
terminate on October 1, 1942, unless any of the bonds above referred to
purchased by the said Lane Company shall be outstanding and unpaid on said
date, then such agency shall remain in full force and effect until all of said bonds
are paid, at which time it shall terminate and end, provided, however, that at any
time during the term of the lease the Lane Company may surrender its right to
manage the building and to act as agent of the Hotel Company by serving a
thirty-day written notice on the Hotel Company of its election to terminate at
least thirty days prior to the actual termination thereof, and said agency shall
terminate and end at the time designated in the notice without in anywise
interfering with or modifying the leasehold interest of the party of the second
part. It is further agreed as a part of the consideration aforesaid, the building to be
erected shall be known as Lane Mortgage Building until October 1, 1942, and the
Lane Company may maintain signs on the building displaying the name, and may
at its option change the name.
"The Lane Company shall render to the Hotel Company a complete report and
statement of leases made, insurance placed, rents collected and disbursements at
least once each month, and account for and pay to Hotel Company all moneys
due it, and all leases shall be to such tenants and upon such terms as shall first be
approved in writing by the Hotel Company. The ordinary expense of collecting
the rents shall be borne by Lane Company, provided that if any litigation is
necessary to collect rentals or enforce payment of insurance, or any other cost or
expense occurs in making any such collections, the same shall be paid by the
Hotel Company."
*420 This agreement, duly executed and acknowledged by the parties thereto, was recorded in the
official records of Los Angeles county on January 13, 1922. Thereafter the Hotel Company
proceeded with the construction of the building and the same was practically completed by it on
December 2, 1922. On this last-mentioned date the Hotel Company by a written instrument assigned
to Crenshaw and Smailes, defendants herein, the lease and the building on the property. This
assignment was made pursuant to and in compliance with the provisions of the original lease from
the Stolls to the Hotel Company. No question is raised concerning this assignment as far as it
operates to divest the Hotel Company of all interest in the subject-matter of the present action. This
assignment was expressly subject to a lease of the entire second floor in favor of Lane Mortgage
Company for 20 years at a total rental of $10. It may be added that a number of other subleases were
likewise included with the Lane Company lease and running to various persons, firms and
corporations. On the same date as this assignment the defendants Smailes and Crenshaw addressed,
signed, and delivered to the Hotel Company a writing in the following words:
"We understand that Lane Mortgage Company has an agreement with your
company to manage and collect the rentals from the building on lot 11, block 51,
Huber tract, and to receive a fee therefor of five (5) per cent. of the gross rental,
and also the right to call said building 'The Lane Mortgage Building,' which
agreement is for a period ending October 1, 1942, and we accept assignment and
conveyance of the leasehold interest and said building with full knowledge of the
existence of said contract and acquiesce therein."
69
Thereafter Smailes and Crenshaw proceeded with the completion of the building, and the same was
ready for occupancy in January, 1923, at which time the various tenants, including Lane Company,
entered into possession of the portions thereof leased to them. The total cost of the building was in
excess of $385,000, and the court below found that the lease and buildings were of a fair market
value of $1,000,000.
*421 We have then the building completed. The defendants Smailes and Crenshaw own the
building and the lease, and the plaintiff Lane Company holding the second floor under its lease from
the Hotel Company, and managing the building, collecting the rents, and exercising the powers and
rights granted to it under the agreement with and lease from the Hotel Company. Thus prefaced with
a detail necessary to a complete understanding of the situation, we come to the present controversy.
The plaintiff Lane Company, in its complaint, sets up all of the facts as hereinbefore stated
with additional allegations. Plaintiff alleges that it negotiated the lease between Stolls and the Hotel
Company, and in sundry ways aided and assisted the Hotel Company in obtaining the lease and in
the construction of the building, and for these and various other considerations received the lease and
agreement between Lane Company and the Hotel Company. Generally, the gravamen of plaintiff's
complaint is that soon after it took possession and assumed the management of the building the
defendants Crenshaw and Smailes plotted and conspired to disregard, violate, and hold for naught
plaintiff's contract. Many allegations of specific acts follow. Summed up, plaintiff alleges that
defendants **677 refuse plaintiff the management of the building; that they collect the rents
themselves, employ janitors and other help, assume to themselves the placing of insurance and the
payment of taxes and ground rent. Likewise does plaintiff complain that defendants have ignored its
right to have the building known as Lane Mortgage Building. Sufficient allegations appear to charge
a complete disregard of plaintiff's claim to manage the building, collect rentals, employ help, procure
insurance, etc. Plaintiff further alleges acts on the part of said defendants which are an interference
with its right to the enjoyment and occupancy of the second floor of said building. Plaintiff then
prays that defendants be enjoined from doing any and all of the acts complained of, and then follows
this prayer:
"Plaintiff further prays that the court declare the rights and duties of plaintiff and
defendants in and under said instrument and agreement of December 31, 1921,
and the legal rights and duties of the respective parties to this action under that
contract and in the controversy disclosed by this complaint; and determine that
the proper *422 construction of the said instrument and agreement requires the
granting of the relief herein prayed for by plaintiff and that the plaintiff is entitled
to the remedies it claims in this action."
The defendants Crenshaw and Smailes by way of answer admitted taking over the
management of the building, paying taxes and ground rent, procuring insurance, etc.; in fact, contend
that the right and power given plaintiff in this behalf is a mere naked agency revocable by the
defendants at their pleasure. Defendants, however, deny any present or intended interference with
the plaintiff's right to possession of the second floor for the 20-year term free of rental. They further
allege that plaintiff has failed to properly manage the building and has been guilty of willful
misconduct. They allege their full compliance with the terms of the original ground lease from
Stolls to the Hotel Company, and deny any interference on their part with the right of plaintiff to
70
have the building known as and called Lane Mortgage Building. They allege further that plaintiff's
right to manage the building and collect rentals, etc., was solely to secure to it the payment of a bond
issue on the building, and allege further the payment of all sums due under the issue. Defendants
affirmatively allege that the contract between Hotel Company and plaintiff, in so far as the agency
features are involved, was without consideration, and further plead that the consideration supporting
the leasehold interest being wholly as payment or bonus for a loan was usurious.
After a trial upon the issues the court below made its findings of fact and entered judgment
denying plaintiff any injunctive relief, and declining to enter or make any declaration of the rights of
the respective parties under the Hotel Company lease to plaintiff. It will be unnecessary to detail all
of the trial court's findings, but sufficient thereof may be given to amplify the respective contentions.
The court found as a fact and likewise drew its conclusion of law that the agency in favor of
plaintiff set forth in said contract of December 31, 1921 (being the contract and lease agreement
between the Hotel Company and Lane Company), is not coupled with any interest that plaintiff has
or claims in the Lane Mortgage Building.
*423 The trial court made another finding to the effect that the attention of the court had been
called to the fact that there is another action pending in the superior court of the state of California,
in and for the county of Los Angeles, by and between the same parties to the present action, wherein
issue is raised as to the true consideration for said contract of December 31, 1921, and the court,
decreeing a finding of fact on that issue not necessary or material for a decision herein, makes no
finding of fact as to the true consideration for said contract or as to whether the consideration recited
in said contract of December 31, 1921, is or was the true consideration therefor.
Still further, the court finds:
"That the agency created in favor of plaintiff under the contract of December 31,
1921, to manage said Lane Mortgage Building was not given or entered into for
the purpose of protecting any interest plaintiff now has or claims to have in said
building, and was not given for any purpose other than the protection of the
indebtedness evidenced by said $200,000 (two hundred thousand dollars) bond
issue made by the Hotel Company and referred to in the agreement, and which
said bond issue was fully paid and discharged on or about April 1, 1923; that the
termination of plaintiff's agency for the management of said building does not
and will not injure, depreciate or in anywise affect any interest or interests which
plaintiff has or claims to have in said building."
It may be noted-of which more hereinafter-that the court likewise declined to find upon the
issue as to whether or not Lane Company had been guilty of willful misconduct, upon the expressed
ground that the issue was not urged- practically a finding that the issue had been abandoned. Indeed,
at the trial it was stipulated as follows: That Lane Company did all the work necessary or incident to
the management of the building or incident to which it was prevented from doing by Crenshaw and
Smailes, without carrying out any question of how well it was done or that defendant (sic) was not
guilty in some instances of misconduct, but the actual performance is admitted.
71
We think the case sufficiently outlined.
The question of consideration, in contracts of this kind, is an important matter, and a finding
should have been made if issue were joined. Defendants alleged a complete *424 lack **678 of
consideration, but offered not a single iota of evidence on the question. We think the court should
have found that the consideration was as recited in the instrument. We are not holding that the
defendants had the right to question the actual consideration, as that question is not before us.
Defendants, as noted, offered no evidence on the subject, but base their contention upon a general
argument by merely stating the claim that the instrument and agreement is unsupported by any
consideration.
The facts in support of the agreement and its consideration appear as follows: The
instrument being in writing imports a consideration, even without a recital thereof. The recitals in
the instrument are conclusively presumed to be true as between the parties thereto or their successors
in interest by a subsequent title (Code Civ. Proc. ' 1962). This conclusive presumption does not
apply to the recital of the consideration. However, the presumption would apply to the recital that
"said lease is valuable to the Hotel Company and was procured for it by the Lane Company, and said
Lane Company has agreed to finance the construction of the building by loaning $200,000 to Hotel
Company for the purpose of erecting said building." The further recital in said instrument that the
said services and loan by Lane Company constituted the consideration for the lease and agency are
not deemed conclusive under the Code section 1962, Code of Civil Procedure. However, section
1963, Code of Civil Procedure, provides that it is a satisfactory presumption, if uncontradicted, that
there was a good and sufficient consideration for the written contract. Taking these two
presumptions together, the latter being wholly uncontroverted, the inequality between the two is
slight. With it being conclusive that the recital is true, and an almost equally strong presumption that
the contract was supported by an adequate consideration, then a strong inference arises sufficient to
constitute a prima facie showing that the presumed consideration was and is as stated in the
instrument. Aside from this there is direct evidence on the subject. The president of the Hotel
Company who conducted the negotiations testified that there was nothing compulsory about the deal.
It was a matter of negotiation. Mr. Lane proposed doing certain things under certain conditions, and
Hotel Company agreed to those conditions. *425 It was necessary to do all those things in order to
get the deal-the loan and the lease. Throughout the general negotiations between Crenshaw and
Smailes and the Hotel Company the former dealt with the property conceding the lease and
agreement with the Lane Company, and this was deemed an incumbrance in determining the value
of the property. There were in evidence letters written by Lane Company to defendants Crenshaw
and Smailes stating the consideration to be as recited in the instrument, and no evidence of denial or
lack of acquiescence on the part of said defendants.
On the subject of consideration reference may be had to 6 Cal. Jur. ' 132 et seq.
We conclude, therefore, that not only was it error to fail to find on the question of
consideration, but also that on the face of the record the finding should have been that the true
consideration was as recited in the instrument. If this were not true, nevertheless, even in the absence
of a finding on what constituted the actual consideration, a presumption would still remain and stand
as a fact when not controverted that there was a consideration and that it was adequate.
72
It would be an idle and vexatious requirement that a new trial should be ordered on account
of this lack of a finding which the record compels. Section 4 3/4 , article 6, of the state Constitution,
is designed to meet such a condition, and likewise the legislation adopted to effectuate the said
constitutional provision, Code of Civil Procedure, ' 956a (as added by St. 1927, p. 583). Pursuant
thereto we do find that the consideration supporting the agreement between Hotel Company and
Lane Company was the consideration recited therein.
In passing it may be noted that the reason assigned by the trial court for refusing to make a
finding was the pendency of another action between the parties. There is not a scrap of testimony,
nor a statement of counsel, nor a suggestion of any sort in the record before us of or concerning any
other litigation between the parties.
Summing up the entire transaction, then, between Hotel Company and Lane Company, it
may be thus narrated: The Hotel Company located a lot of land in a most prominent and promising
section of the city of Los Angeles which was standing unimproved. In order to get a lease on *426
the lot the Hotel Company secures the services of the Lane Company, disclosed herein to be
investment bankers. The Lane Company secured for the Hotel Company a lease for 99 years upon
the condition, among others, that a building costing not less than $250,000 be erected upon the
premises. As a part of the same transaction the Hotel Company agrees to give Lane Company a
lease, free of rent, for 20 years on the second floor of the building to be erected, and the Lane
Company agrees, in addition to its services in securing the lease, to finance the construction of the
building through a bond issue of $200,000. The lease from the owners to the Hotel Company
contains many conditions and restrictions. A violation of or noncompliance with these works a
forfeiture of the land lease and of the building if erected. Therefore it is most obvious that whatever
value or worth attached to the Lane Company lease was conditional upon compliance with the terms
of the land lease. If the Hotel Company defaulted in rental, or neglected to keep the **679 premises
insured, or permitted through lack of management the character or repute of the building to become
unsound, or allowed the building to be used for unlawful purposes, then the lease of Lane Company
was valueless. Also, if the Hotel Company should tire of its bargain with Lane, and by connivance
or collusion bring about an apparent forfeiture sufficient to cause even an arranged ouster, Lane
Company were left with no recourse unless advised of the facts. The history of man's dealings with
his fellow man, as revealed in the reported cases, indicate that the bare lease under the conditions
might have lost its worth much sooner than the expiration of the fixed term. However, after
negotiating for and agreeing upon a 20-year lease, weak with all of the pitfalls and possibilities
incident to the tenure of the Hotel Company, it was specifically made a part of the one and same
transaction that a power should be given the Lane Company whereby it could protect and render
secure and valuable the lease agreed upon. The power so given was the sole and exclusive agency to
manage the building to be erected, thus giving to Lane Company the ability to protect the lease
against a forfeiture of the land lease by reason of the building or any portion being used for any
purpose calculated to injure the premises, *427 or by reason of any unlawful use, or through the
building becoming in a state of dilapidation or unsafety. Likewise embraced within such granted
power was the right to collect rentals and apply the same to the extinguishment of the various
obligations resting upon the Hotel Company under the land lease, including the procuring of
insurance, a compliance with which was compulsory under penalty of forfeiture. The power thus
given was declared by the trial court to be a mere naked power revocable at will by the Hotel
73
Company or its successors, and not a power coupled with an interest as the term is understood in the
law relating to principal and agent. In this holding the trial court was in error.
It is most difficult to frame an all-embracing definition of a power coupled with an interest.
Most of the authorities on the subject seem to concede that such a power is recognized by the law,
and when found to exist in any given case it is not revocable at the will of the principal and even
survives his death. The question ever present is as to when such a power exists, and what conditions
must be shown to manifest its existence. Many of the authorities approach the subject as though it
were a thesis, and treat it in such an academic way as to be confusing. Much is said concerning what
is not a power coupled with an interest, with little attempt at exactness concerning what actually
constitutes the same. Some confusion arises in applying the doctrine of the older cases for the
reason that the law of agency has, like other legal doctrines, undergone some change throughout the
years. This is particularly so with reference to the limitations of certain powers of agency and the
erstwhile presumptions attaching. Likewise certain terms current years ago at the present writing
convey meanings entirely different from the then general acceptation.
The attitude of the California courts is not doubtful. Each case is determined from its own
facts and the conclusions reached by a consideration of the entire instrument creating the power in
question. The law of California is most fully and carefully expounded in the case of Todd v.
Superior Court, 181 Cal. 406, 184 P. 684, and the application of the law as therein announced
demonstrates the error of the court below. In the Todd Case the Supreme *428 Court adopts the
reasoning of the early case of Hunt v. Rousmanier, 8 Wheat. 174, 5 L. Ed. 589. In this latter case the
opinion of the United States Supreme Court was written by Chief Justice Marshall, and has come
down through the years, remaining today the leading and accepted announcement of the legal
doctrine of a power coupled with an interest.
Concretely, a power is said to be coupled with an interest when the power forms part of a
contract, and is a security for money or for the performance of any act which is deemed valuable,
and is generally made irrevocable in terms, or, if not so, is deemed irrevocable in law. The Supreme
Court in the Todd Case, supra, quotes approvingly from Hartley's Appeal, 53 Pa. 212, 91 Am. Dec.
207, as follows:
"To impart an irrevocable quality to a power of attorney in the absence of any
express stipulation, and as the result of legal principles alone, there must coexist
with the power an interest in the thing or estate to be disposed of or managed
under the power."
We think that there is hardly a case that can be made to which these principles could have a
more direct and fitting application than the case at bar. The Lane Company has a 20-year lease in
the entire second floor of the 12-story building which is the subject of the power. That this is an
interest there can be no question. Union Trust Co. v. Reed, 213 Mass. 199, 99 N. E. 1093; Inyo
Water Co. v. Jess, 161 Cal. 516, 119 P. 934; Walther v. Sierra Ry. Co., 141 Cal. 288, 74 P. 840;
Payne v. Neuval, 155 Cal. 46, 49, 99 P. 476; Friedman v. Macy, 17 Cal. 226; Dahlberg v. Haeberle,
71 N. J. Law, 514, 59 A. 92; Brickill v. Atlas Assurance Co., 10 Cal. App. 17, 101 P. 16; 16 Am. &
Eng. Ency. of Law (2d Ed.) 1102. The interest does not arise only upon the execution of the power,
as was the situation in Hunt v. Rousmanier, supra, or Todd v. Superior Court, supra. It is a live,
74
active, valuable interest, coupled with the power to the extent that if the power did not exist the
interest would be subject to destruction or forfeiture. The lease, as hereinbefore pointed **680 out,
would be totally valueless in the absence of compliance with the provisions of the original land
lease. The powers granted the Lane Company in their total amount to no more than placing in the
hands of the company directly the means of *429 preserving its said interest. This manifestly
constitutes such a power as Chief Justice Marshall refers to in Hunt v. Rousmanier, namely, a power
forming part of the contract and security for the performance of an act deemed valuable. The power
in the present case was expressly made irrevocable and expressly tied to the entire transaction in the
creation of the leasehold interest. We would concede that if the Lane Company merely held an
agency to collect rents and retain 5 per cent. commission the agency would be revocable. But the
mere fact that, incidental to the execution of the coupled power, an additional interest is created in
the proceeds thus derived in no sense impairs the coupling of the power and interest theretofore
existing.
Respondents insist that the agency is a mere naked power revocable at will. Their first
contention, if sustained, would settle the dispute at once. They approach the problem of the
connection between the power and the interest in much the same manner as was employed in the
difficulties surrounding the untying of the Gordian knot. They contend first that by considering the
power as separate and distinct from the interest, and not essential thereto, we have a simple agency.
They then apply the accepted rule that such an agency is not coupled with an interest and therefore
recovable. This contention is already determined.
Next respondents contend that because the power may, at the option of the agent, be
surrendered without affecting the leasehold interest, therefore the power and interest are not coupled
sufficiently to meet the requirements of the rule. Arguendo, it could as well be determined that the
insertion of this obviously cautionary provision would demonstrate the intended connection, and,
recognizing the existence of the jointure, thus specified the saving of an interest which the loss of the
coupled power might have destroyed. However, it is not necessary to argue the point. The security
for the performance of an obligation may be voluntarily surrendered without impairing the said
obligation, and the fact that the power and interest may at some time be severed by the voluntary act
of Lane Company in no way alters the present connection between them as herein found to exist.
*430 Much is said by respondents on the point that the Lane Company was required to execute
leases in the name of and subject to the approval of the lessors of the ground, the Hotel Company.
Respondent argues that under the doctrine of the cases of Hunt v. Rousmanier, supra, and Todd v.
Superior Court, supra, in order that a power may be coupled with an interest the agent must have the
power to act in his own name. Such is not the doctrine of either case. As stated in the Todd Case:
"It is well settled *** that in order to constitute an irrevocable power of attorney
there must coexist with the power a beneficial interest *** which is enforceable
in the name of the attorney in fact and will survive the constituent; or the power
must be given as security for the *** performance of some act of value."
Here the beneficial interest is enforceable in the name of the agent, meaning, necessarily the interest
which the agent has, and likewise is the power given as security.
75
In many of the decisions we find language somewhat confusing, more through an oddity of
grammatical construction than otherwise. But the main principle to be kept in mind is that the entire
doctrine under discussion pertains to and is a part of the relationship of principal and agent. If we
discard the element of agency entirely, then there is no need for any rule as to when an agency is
irrevocable. The paramount essential of agency is the representative capacity of the agent. If there
is no principal, disclosed or undisclosed, there is no agency. Therefore, when respondents contend
that the power must be one that the agent exercises as a principal, the argument becomes selfdestructive.
Finally, on this subject, respondents urge the equities of the case. Little need be noted on this
phase of the case. Respondents took over the property from the Hotel Company with full knowledge
of the Lane Company lease and agency, and the evidence discloses that this Lane Company contract
was considered and allowed for in determining the value of the Hotel Company's land lease and the
price to be paid for the building. The record supports the statement that at all times the respondents
had in mind the cancellation of the Lane Company agency, and from the very outset were
determined to terminate the same. It seems the clearest equity *431 to protect the interest of Lane
Company bought and paid for as against one who advisedly purchased with knowledge thereof. The
Lane Company is bound under its contract to refrain from willful misconduct in the execution of its
agency, and the court below found that the issue of willful misconduct had been abandoned at the
trial, a conclusion from the fact that no evidence had been adduced on the part of the defendants on
that issue.
Conceding then the nature of the agency, the next question presented is as to the remedy of
injunction asked by plaintiff.
Respondents' contention that injunction does not lie is based chiefly on the assumption that
the agency is not a power coupled with an interest. If the contrary is conceded **681 in conformity
with the holding heretofore, little is left of respondents' theory on this branch of the case.
The early case of Posten v. Rassette, 5 Cal. 467, holds squarely that injunction is a proper
remedy to prevent the revocation of an agency coupled with an interest. Throughout the years
following this decision has never been questioned or disturbed. While the antiquity of this authority
might be an argument against its present-day application, yet it is much more recent than the case of
Hunt v. Rousmanier, the leading case today on the subject of powers coupled with interest.
Respondents argue that the contract in question is not capable of specific performance for the
reason that it is a contract calling for personal services. Here again the basis of respondents'
contention fails. It is unnecessary to here repeat what has preceded, but the views as hereinbefore set
forth likewise determine this issue. While we do not hold that the contract in question is or could be
specifically enforced, deeming that unnecessary to the decision, it is a settled rule of equity that the
lack of this capability does not preclude a court from decreeing injunctive relief. See California
Jurisprudence, 14, ' 16 et seq., with authorities there cited. We hold that the powers conferred in the
contract between Hotel Company and Lane Company are actual subsisting rights so connected with
the property interests transferred as to entitle plaintiff to the relief prayed for.
76
*432 Respondents seem to concede that if the powers granted are not coupled with an interest,
even then they would have no right to revoke excepting with a liability to compensate appellant for
any damage ensuing. Respondents lay much stress on the distinction between the power to revoke
and the right to revoke, but the authorities cited clearly indicate that where the agency is coupled
with an interest the power to revoke does not remain in the principal. In Boehm v. Spreckels, 183
Cal. 239, 191 P. 5, it is said:
"There is a distinction between the power to revoke and the right to revoke an
agency. Except where the agent's power is coupled with an interest, the power to
revoke always exists, but the right to revoke without liability for damages
depends upon circumstances."
Respondents contend that they are not interfering with or in anywise disturbing the leasehold
interest by terminating the agency, and on that theory argue that necessarily the subject-matter of the
present action is practically confined to the personal services involved in the agency. As
hereinbefore pointed out, the value of the lease and the continuation of the enjoyment of the estate
therein conferred are so intimately interwoven with the granted power that this contention of
respondents needs no further discussion.
Finally, respondents argue that they do not intend to permit the original land lease to lapse or
any forfeiture to occur thereunder, and that all of the fears of plaintiff are groundless. In other
words, the Lane Company is as much protected without the power as with it, and there is therefore
no need for equitable interference. It may as well be argued that the lease itself should be canceled
for the reason that respondents would in no event disturb the possession of appellant Lane Company.
From the very first connection of Crenshaw and Smailes with the property nothing but trouble has
followed. The testimony discloses discord from the very first, characterized by the exchange of
personal insult and vituperation and culminating in actual physical encounter. The evidence justifies
the conclusion that these defendants are convinced that their best interests lie in ridding themselves
of every burden fastened on the premises by the Hotel Company agreement with Lane Company. In
this condition of affairs the fears of Lane Company cannot *433 be said to be imaginary or
groundless. The continued forbearance of appellant would but invite further aggression.
The only remaining question presented is on the scope of sections 1060 to 1062, inclusive,
of the Code of Civil Procedure, dealing with declaratory relief. The court below declined to declare
the rights of the parties under the contract in question, obviously deeming such declaration
unnecessary. The constitutionality of those sections having been determined, there is no need to
reopen that question. Blakeslee v. Wilson, 190 Cal. 484, 213 P. 495. Under the decision of the trial
court that the agency was revocable and justifying the action of defendants in revoking, it was almost
imperative that the rights of the parties be determined and declared. As we have held the lower court
in error in this finding, there no longer remains a necessity to such a degree. As we have determined
the agency irrevocable, and injunction the proper remedy to prevent acts constituting a revocation, it
will result in plaintiff having the management and control of the premises, together with such other
powers as are contained in the contract between Hotel Company and Lane Company.
As the record shows beyond question that an actual controversy remains and is being
continuously waged, we deem it the duty of the trial court upon further hearing to specifically
77
determine and declare the rights of the parties during the term of the lease. Such questions as the
right of having the building retain the name of Lane Mortgage Building, the right to display signs
thereon, the right to change the uniforms of attendants or the insignia thereon should be declared.
This case presents a controversy to which declaratory relief peculiarly applies. Presenting, as it does,
the unusual situation **682 of a lessee and agent in control of a valuable twelve-story building
through a lease and agency covering one floor thereof, it cannot but be anticipated that the rights of
the respective parties may continue to be the subject of prolonged litigation. It was just such a case
that the provisions of our law regarding declaratory relief were designed to meet and accommodate.
See Blakeslee v. Wilson, supra, and cases and articles cited therein. See, also, article by W. Turney
Fox, professor of law, University Southern California, in Bar Association Bulletin, vol. II, No. 2,
September 16, 1926, with authorities cited. Such a *434 declaration, being determinable upon
findings of fact not made, cannot be made by this court, but remains for the court below upon the
evidence therein presented.
In conclusion, it may appear that the holding results in the true ownership of the building
being subordinated to a lesser interest and to that extent impaired. The obvious answer is that one
may burden his property as he sees fit, within the law, and that the condition as it is here results
solely from the acts of the parties themselves. Defendants possibly speculated upon their ability to
cancel the agency, and took the property with their eyes wide open and evidently advised. Next, no
injustice is apparent in view of the fact that willful misconduct on the part of Lane Company is
sufficient to avoid the contract. Further, it may be noted that the original land lease was the result of
the efforts of Lane Company, and it is fair to assume from the record that without the active aid of
Lane Company the Hotel Company would not have secured the lease nor would they have been able
to build at all. With these things in mind, the view changes somewhat.
With reference to the issues presented as against the defendant Clarke, these have become
moot and need not be determined.
The judgment is reversed, with directions to the court below to proceed in accordance with
the views herein expressed.
We concur: TYLER, P. J.; CASHIN, J.
King v. Driscoll
638 N.E.2d 488
Supreme Judicial Court of Massachusetts,
Middlesex.
William F. KING
v.
78
Robert F. DRISCOLL & others. [FN1]
FN1. Albert Marchant, Michael Martin, and F.S. Payne Co.
Argued April 4, 1994.
Decided Aug. 11, 1994.
LIACOS, Chief Justice.
The defendants, Robert F. Driscoll, Albert Marchant, Michael Martin, and F.S. Payne Co.,
appeal from that portion of a judgment of the Superior Court entered against them in the plaintiff's
wrongful termination suit. The plaintiff filed a cross appeal from another part of that judgment.
See p. 491 & note 5, infra. We granted the defendants' application for direct appellate review. The
primary issue presented here is whether the public policy exception to the rule that at-will employees
may be terminated at any time with or without cause includes termination in retaliation for an
employee's participation in a shareholder derivative suit. [FN2]
FN2. The plaintiff's complaint was in four counts. Count I alleged breach of the covenant of
good faith and fair dealing implied in all employment contracts as well as wrongful
termination in violation of public policy. Count II alleged intentional interference with
contractual relations. Count III alleged breach of the duty of utmost good faith and loyalty
owed by shareholders of a close corporation to one another. Count IV alleged that the
termination was in violation of the by-laws of Payne.
We recount the facts, many of which are in dispute on appeal, as found by the trial judge
sitting without a jury. See Mass.R.Civ.P. 52(a), 365 Mass. 816 (1974). Payne is a closely held
Massachusetts corporation which focuses on services to the elevator industry. Until 1988, it
manufactured elevators and related parts. From its origin until August, 1990, all the stock of Payne
was held by a small number of shareholders and Payne's upper- level management positions were
occupied by individuals owning relatively large amounts of the corporation's stock. In August,
1990, Payne's stock was purchased by Northern Elevator of Toronto.
Beginning in 1954, employees of Payne who purchased Payne stock were required to enter
into a "buy back" agreement which allowed Payne to repurchase the stock at the end of the
employees' respective tenures at Payne. The language of the buy back agreement was ambiguous
and thus Payne repurchased stock over time from departing employees at varying rates. The buy
back agreement became the subject of the shareholder derivative suit relevant here. See Dynan v.
Fritz, 400 Mass. 230, 508 N.E.2d 1371 (1987), S.C., Martin v. F.S. Payne Co., 409 Mass. 753, 569
N.E.2d 808 (1991). The plaintiff here was one of the plaintiffs in that suit.
During the relevant time period, Edward A. Fritz, Jr., was a director, shareholder and, at one
time, president of Payne. [FN3] Driscoll was a director, shareholder, and the president of Payne
when the incidents leading to this lawsuit took place. Martin was an assistant to Driscoll, a director
of Payne, but not a shareholder. Marchant was a director, shareholder, and an employee of Payne.
King began his employment with Payne in 1958 and received various promotions until 1982 when
he was elected by the directors to be vice president of Payne's manufacturing division. He remained
79
in that position until his termination in November 1987. King was a shareholder of Payne.
FN3. Fritz is not a party to this appeal.
During the 1970's and 1980's, various power struggles transpired within Payne, mainly
between Driscoll and Robert G. Dynan, another large shareholder and Payne's lead salesperson.
After Fritz's retirement, the corporate infighting culminated with the ascension to the Payne
presidency by Driscoll. Dynan had been a director but was not reelected in 1983. Around that
time, Driscoll called for Dynan's retirement, but Dynan refused. Later, Dynan's business traveling
was restricted by Driscoll and thus Dynan's effectiveness as a salesperson was diminished.
Both Dynan and Driscoll made overtures to King seeking his support in their "war." At one
point, Driscoll suggested to King that King should be transferred to another division within Payne so
that King could be groomed to succeed Driscoll as president. King, preferring to remain in the
manufacturing division, declined. In the spring of 1984, Dynan asked King to join him in filing a
derivative suit regarding the stock buy back plan, especially as it related to the buy back of Fritz's
stock. King initially declined but later, concluding that the suit was in the best interests of Payne,
joined as a party to the derivative action.
During 1980-1984, Payne's manufacturing division was profitable. During the pendency of
the derivative action from 1985 through 1987, however, the division sustained increasing losses.
The judge found that Driscoll's course of conduct during that time exhibited a purpose to undermine
King's ability successfully to manage the manufacturing division and, thus, to make the division
unprofitable. Among Driscoll's actions cited by the judge were charging the salaries of certain
employees to the overhead of that division, halting a computer project designed to improve
manufacturing efficiency, and restricting Dynan's business travel for sales purposes.
In 1986, Driscoll hired Martin as his assistant, and Martin contracted with a consulting firm
to evaluate the manufacturing division. The judge found that, for various reasons including Martin's
past relationship with members of the consulting firm, the firm's evaluation of the division was
compromised. Although Martin resigned his employment with Payne early in 1987, he had been
appointed a director and so his involvement with the corporation continued. In March, 1987, Rick
Auth was hired by Driscoll as assistant to the treasurer. Auth previously had been affiliated with the
accounting firm that performed services for Payne.
In June 1987, a "steering committee" was formed to investigate the performance of Payne's
manufacturing division. The committee was chaired by Auth. Its members were Marchant, King,
two Payne managers, and Paul Oberg of the consulting firm. The majority of the committee
ultimately suggested that new management was needed in the manufacturing division--that is, King
should be terminated.
On November 13, 1987, at a meeting of the Payne board of directors attended by Driscoll,
Martin, Marchant and Fritz, the directors voted to terminate King. Fritz abstained from this vote. At
a meeting on November 30, 1987, Driscoll, in the presence of Martin, terminated King's
employment. King contends that, at this meeting, Driscoll suggested that he would not be firing
King if it were not for his participation in the derivative suit.
80
The Driscoll faction proffered several legitimate business reasons for terminating King. The
group contended that King was ineffective as vice president of manufacturing and cited King's
failure to prepare a five-year plan for manufacturing as requested by Driscoll, [FN4] the $250,000
loss sustained by the manufacturing division in 1986, the steering committee's recommendation, and
the consulting firm's recommendation. The judge discussed and rejected each of these reasons. In
addition, the judge made findings regarding the motives and conduct of Driscoll, Martin, Marchant,
and Fritz which led him to his conclusion that the reasons asserted for King's termination were a
pretext.
FN4. The judge found that Driscoll's request for a five-year plan amounted to a request for
the impossible because of Payne's inadequate computer system, King's lack of resources to
complete the plan and King's other time-consuming responsibilities. The judge found that,
if King had worked on preparing a written plan, the daily functioning of the manufacturing
division would have suffered. The judge further found that Driscoll knew his request was
unreasonable.
The judge concluded that, on his review of the totality of the evidence, King's termination did
not have a legitimate business purpose. Instead, the judge found, King was terminated in retaliation
for his participation in the derivative action. Acknowledging the general rule that, as an at-will
employee, King could be terminated at any time with or without cause, the judge ruled that King's
termination in retaliation for participating in a derivative suit was covered by the public policy
exception to the general rule. Thus, the judge concluded, King's termination was wrongful and
actionable at law.
The judge also ruled that Payne, through the actions of Driscoll, Martin, and Marchant,
breached the covenant of good faith and fair dealing implied in at- will employment contracts. As
to King's claim of intentional interference with contractual relations, the judge concluded that
Driscoll and Martin, but not Marchant, were liable for interfering with King's employment contract
with Payne. In addition, the judge concluded that Driscoll and Marchant, as shareholders in a close
corporation, breached the duty of utmost good faith and loyalty owed to King, another shareholder.
On King's claim that his termination violated an implied contract that he would be terminated
only "for cause" and only after notice and a hearing as provided in Payne's by-laws, the judge ruled
against King. [FN5] Payne had filed counterclaims against King for allegedly violating an implied
covenant of good faith and fair dealing by his alleged failure to prevent and later account for a loss
of inventory, his alleged premature installation and invoicing of a particular elevator project, and his
alleged failure to rectify a problem with a certain type of elevator button used by Payne. The judge
found in favor of King on these counterclaims. [FN6] The judge also awarded King attorney's fees.
FN5. It is from this ruling, and the judgment pursuant to it, that the plaintiff cross appeals.
FN6. Neither party has raised on appeal the part of the judgment relating to the
counterclaims.
1.
Wrongful termination claim. The defendants argue that there was insufficient evidence on
81
which the judge could have based his finding of wrongful termination, and that, in any case, there is
no public policy which would prevent an employer from terminating an employee who participates
in a shareholder derivative action. Because we agree with the defendants' second argument, we
need not address the first. See Wright v. Shriners Hosp. for Crippled Children, 412 Mass. 469, 472,
589 N.E.2d 1241 (1992) (whether retaliatory discharge violates public policy question of law for the
judge).
As an exception to the general rule that an employer may terminate an at-will employee at
any time with or without cause, we have recognized that an at-will employee has a cause of action
for wrongful termination only if the termination violates a clearly established public policy. Flesner
v. Technical Communications Corp., 410 Mass. 805, 810-811, 575 N.E.2d 1107 (1991) (wrongful
termination where employee was terminated for cooperating with Customs officials in investigation
of employer, even though employee was not required by law to cooperate) (noting, id. at 810, 575
N.E.2d 1107, quoting Smith- Pfeffer v. Superintendant of the Walter E. Fernald State Sch., 404
Mass. 145, 149, 533 N.E.2d 1368 [1989], that "redress is available for employees who are
terminated 'for asserting a legally guaranteed right [e.g. filing workers' compensation claim]' ").
Hobson v. McLean Hosp. Corp., 402 Mass. 413, 416- 417, 522 N.E.2d 975 (1988) (wrongful
termination may be found where employee was terminated for adhering strictly to what law
required). DeRose v. Putnam Management Co., 398 Mass. 205, 209-211, 496 N.E.2d 428 (1986)
(termination wrongful where employee was terminated for refusing to testify falsely at trial, i.e.,
refusing to do what the law forbids). Cort v. Bristol-Myers Co., 385 Mass. 300, 306-307, 431
N.E.2d 908 (1982) (wrongful termination may be found where employee is terminated for refusing
to provide information to employer where such request is serious or substantial interference with
privacy). Gram v. Liberty Mut. Ins. Co., 384 Mass. 659, 668 n. 6, 429 N.E.2d 21 (1981), S.C., 391
Mass. 333, 461 N.E.2d 796 (1984).
This court consistently has interpreted the public policy exception narrowly, reasoning that to
do otherwise would "convert the general rule ... into a rule that requires just cause to terminate an atwill employee." Smith-Pfeffer v. Superintendent of the Walter E. Fernald State Sch., supra 404
Mass. at 150, 533 N.E.2d 1368. See Wright, supra 412 Mass. at 474, 589 N.E.2d 1241 (where
nurse reported internal problems to high-level officials within organization, reports were internal
matter, which could not be basis for public policy exception); Smith-Pfeffer, supra 404 Mass. at
150- 151, 533 N.E.2d 1368 (where employee expressed disagreement with superior's management of
school, even if to do so was appropriate, socially desirable conduct, termination was not wrongful
because school management was an internal matter); Mello v. Stop & Shop Cos., 402 Mass. 555,
560-561, 524 N.E.2d 105 (1988) (termination of employee who reported false damage claims could
not be wrongful because claims were an internal matter). See also Mistishen v. Falcone Piano Co.,
36 Mass.App.Ct. 243, 245-246, 630 N.E.2d 294 (1994) (discharge of employee who threatened to
reveal employer's unfair and deceptive trade practices which were not a threat to public health or
safety was not wrongful because the situation did not rise to the requisite level of public importance;
it was an internal matter); Yovino v. Fish, 27 Mass.App.Ct. 442, 444-445, 539 N.E.2d 548 (1989)
(termination of producer of radio program who permitted program which parodied and thus offended
public officials was not wrongful because no issue of freedom of speech of employee was involved).
As the above cases demonstrate, the internal administration, policy, functioning, and other
matters of an organization cannot be the basis for a public policy exception to the general rule that
82
at-will employees are terminable at any time with or without cause. In this case, the subject of the
lawsuit, the price to be paid under the stock buy back program, was an internal company matter.
The mere fact that a dissatisfied shareholder could litigate the matter in a court of the
Commonwealth does not transform this into an external matter involving, as the plaintiff argues,
public policy. Thus, assuming that King was terminated in retaliation for participation in the
derivative action, we conclude that his termination did not violate any public policy.
General Laws c. 156B, § 46 (1992 ed.), conferred on King the right to participate in a
derivative suit. While we often look to statutes to find pronouncements of public policy, see, e.g.,
Federici v. Mansfield Credit Union, 399 Mass. 592, 596-597, 506 N.E.2d 115 (1987); but see
Wright, supra 412 Mass. at 477-478, 589 N.E.2d 1241 (Liacos, C.J., dissenting) (emphasizing
separate common law sources of public policy determinations), it is not necessarily true that the
existence of a statute relating to a particular matter is by itself a pronouncement of public policy that
will protect, in every instance, an employee from termination. Even a public policy, evidenced in a
particular statute, which protects employees in some instances might not protect employees in all
instances. See Mistishen, supra. The statute at issue may suggest a public policy in favor of
allowing shareholders to seek redress for perceived harms to the corporation. This public policy,
however, which relates to the financial well being of the corporation and, by extension, its
shareholders, does not rise to the level of importance required to justify an exception to the general
rule regarding termination of employees at will.
It may be true generally that the financial well being of a corporation affects the economy
which in turn affects the well being of the citizenry, and that, therefore, shareholder derivative
actions are appropriate and socially desirable conduct. Nevertheless, such a remote effect on the
public, arising in the context of a conflict over internal policy matters, does not elevate King's
participation in the lawsuit to protected activity. * * *
The fact that participation in a derivative suit is a right of a shareholder employee conferred
by G.L. c. 156B, § 46, also does not change our conclusion. To date, we have acknowledged very
few statutory rights the exercise of which would warrant invocation of the public policy exception. *
* * For the exercise of a statutory right to be worthy of protection in this area we believe that the
statutory right must relate to or arise from the employee's status as an employee, not as a
shareholder. [FN7] Cf. Mello, supra 402 Mass. at 557, 524 N.E.2d 105 (rule of liability can be
found where statute expresses Legislature's policy concerning employees' rights). The exercise of
the right to file a derivative action arose from King's status as a shareholder [FN8]; his termination
as an employee resulting from the exercise of that right does not automatically entitle him to seek
redress. [* * *]
FN7. Of course, a statute itself may provide that an employer may not terminate an employee
for exercising rights conferred by the statute, and in such a case, the common law public
policy exception is not called into play. See Mello, supra at 555, 524 N.E.2d 105 (no
common law remedy is needed where statute prescribes a remedy).
FN8. As we noted in note 2, supra, count I of the plaintiff's complaint alleged both wrongful
termination in violation of public policy, and breach of the covenant of good faith and fair
dealing implied in at- will employment contracts. See Fortune v. National Cash Register
83
Co., 373 Mass. 96, 101, 364 N.E.2d 1251 (1977). Thus, count I was in two parts which
were independent of each other. The judge's conclusions on each part of count I likewise
were independent of each other. The defendants thoroughly argued on appeal their position
as to the first part of count I, the public policy exception, but they did not argue the second
part, the breach of the covenant described in Fortune. Thus, the issue of the breach of the
covenant of good faith and fair dealing is not before us. Mass.R.A.P. 16(a)(4), as amended,
367 Mass. 921 (1975). Our conclusion regarding the first part of count I does not affect the
judge's findings on the second part.
The defendants argued their position as to count III regarding the duty owed to King as a
fellow shareholder. This issue is not the same as the duty of good faith and fair dealing
owed to King as an employee. In addition, the defendants argued that the evidence was
insufficient to support a finding that King was terminated in retaliation for his participation
in the derivative suit. Again, this argument does not relate to the issue of the duty of good
faith and fair dealing owed to King as an employee. The defendants' purported argument
regarding certain findings alleged to be clearly erroneous, was set forth by making reference
in their brief to posttrial motions, and does not rise to the level of appellate argument.
Mass.R.A.P. 16(a)(4). See Wellfleet v. Glaze, 403 Mass. 79, 80 n. 2, 525 N.E.2d 1298
(1988).
On remand, the judge should recalculate damages, if any, attributable to the breach of the
covenant of good faith and fair dealing owed to King as an employee. See Fortune, supra at
104-105, 364 N.E.2d 1251; Gram v. Liberty Mut. Ins. Co., 384 Mass. 659, 672, 429 N.E.2d
21 (1981); S.C., 391 Mass. 333, 461 N.E.2d 796 (1984).
2.
Breach of the duty of utmost good faith and loyalty owed to King as a shareholder. Relying
on Donahue v. Rodd Electrotype Co. of New England, Inc., 367 Mass. 578, 586-587, 328 N.E.2d 505
(1975), and Wilkes v. Springside Nursing Home, Inc., 370 Mass. 842, 848, 353 N.E.2d 657 (1976),
the judge concluded that Driscoll and Marchant breached the duty of utmost good faith and loyalty
to King when they terminated King's employment with Payne.
The defendants argue for reversal of this conclusion. In support thereof they offer the case
of Evangelista v. Holland, 27 Mass.App.Ct. 244, 248-249, 537 N.E.2d 589 (1989). Evangelista,
supra at 248-249, 537 N.E.2d 589, cites to Donahue, supra 367 Mass. at 598 n. 24, 328 N.E.2d 505,
for the proposition, "Questions of good faith and loyalty do not arise when all the stockholders in
advance enter into an agreement for the purchase of stock of a withdrawing or deceased
stockholder." In both the Donahue and Evangelista cases, however, the controversies themselves
arose from repurchase transactions of the stock of certain shareholders. Donahue, supra at 579, 328
N.E.2d 505. Evangelista, supra 27 Mass.App.Ct. at 245- 246, 537 N.E.2d 589. Thus, the courts
deciding those cases were examining the duties of good faith and loyalty surrounding the repurchase
transactions alone. Accordingly in Evangelista, where there was a valid repurchase agreement
previously executed and there was no indication that, at the time of the execution of the agreement,
the parties failed in their duties of good faith and loyalty, the court was warranted in stating that
"[q]uestions of good faith and loyalty do not arise when all the stockholders in advance enter into an
agreement for the purchase of stock...." Id. at 248-249, 537 N.E.2d 589. Evangelista does not stand
for the proposition that the existence of a buy back agreement completely relieves shareholders of
the high duty owed to one another in all dealings among them.
84
In this case, contrary to the facts of Donahue and Evangelista, the allegations of breach of the
duty of utmost good faith and loyalty arose from the conduct of fellow shareholders Driscoll and
Marchant during the whole series of events leading up to and including the termination of the
plaintiff. The plaintiff did not aver that the terms of the repurchase constituted a breach of the duty,
but in essence argued that the conduct of the defendants which caused him to be terminated and, as a
result, caused his stock to be repurchased constituted a breach of that duty. The judge agreed.
The only legal ground asserted by the defendants for reversal on this issue was the quoted
language from Evangelista, supra. As we have discussed above, however, that case is not
persuasive here. Factually, the defendants have not met their burden of showing that the findings of
the judge supporting his conclusion in this matter were clearly erroneous. See Mass.R.Civ.P. 52(a);
* * * The mere reference in the defendants' brief to pretrial motions, without more, will not suffice.
* * * We affirm this part of the judgment.
*
*
*
6.
Conclusion. The portion of the judgment of the Superior Court finding the defendants liable
for wrongful termination in violation of public policy is reversed. * * * The remainder of the
judgment is affirmed. The case is remanded for further proceedings, including recalculation of
damages, in accordance with this opinion.
So ordered.
Pine River State Bank v. Mettille
333 N.W.2d 622 (Minn. 1983)
Supreme Court of Minnesota.
PINE RIVER STATE BANK, Appellant,
v.
Richard E. METTILLE, Sr., Respondent.
No. C8-82-543.
April 29, 1983.
*623 Syllabus by the Court
1. Portions of an employer's personnel handbook, adopted after employment begins, may
become part of the employee's contract of employment if the requirements for formation of a
unilateral contract are met.
85
2. Where an employment contract is for an indefinite duration, such indefiniteness by itself
does not preclude job security *624 provisions in an employee handbook from becoming part of the
employment contract. Consideration other than continued service by the employee is not necessary
for the enforceability of such provisions.
3. Procedural restraints on termination of employees contained in the appellant bank's
Employee Handbook were contractually binding on the bank, and respondent employee was
wrongfully terminated contrary to the handbook provisions.
4. Trial court evidentiary rulings were not prejudicial error requiring a new trial.
Meagher, Geer, Markham, Anderson, Adamson, Flaskamp & Brennan, Robert E. Salmon, O.C.
Adamson II and J. Richard Bland, Minneapolis, Lundrigan, Hendricks & Lundrigan and Wilbert E.
Hendricks, Pine River, for appellant.
Van Drake & Van Drake and Stephen R. Van Drake, Brainerd, for respondent.
Heard, considered and decided by the court en banc.
SIMONETT, Justice.
An employee hired for an indefinite, at-will term claims his discharge was in breach of his
employment contract as subsequently modified by an employee handbook. A jury awarded the
employee damages and the employer appeals from a denial of its post-trial motions. We affirm.
In early 1978 respondent Richard Mettille, then unemployed, nearly 48 years of age, married
and living in St. Paul, sent his resume to the appellant Pine River State Bank. After an interview,
the bank offered Mettille a job at a salary of $1,000 a month or $12,000 a year. Mettille accepted,
moved to Pine River, and started work as a loan officer on April 10, 1978. The employment
agreement was entirely oral. Nothing was said as to the position being permanent or for any
specific term. Mettille conceded that he felt free to leave the bank and to take a better job elsewhere
if he wished to do so.
Mettille survived his 6-month probationary period and was shortly given the title of loan
officer. His duties were to lend, procure insurance on loan collateral, file UCC financing
statements, and prepare reports on student loans.
Late in 1978 the bank distributed to its employees, including Mettille, a printed Employee
Handbook. The handbook had been drafted by the bank's president, E.A. Griffith, who relied
heavily on a model handbook he had received at a recent seminar on employee relations sponsored
by the Minnesota Bankers Association. The handbook contained information on the bank's
employment policies, including such matters as working hours, time off, vacations, and sick leave.
With respect to employee responsibilities, the handbook discussed such matters as punctuality,
confidentiality of the work, personal appearance and conduct, and telephone courtesy. The
handbook also contained sections on "job security" and "disciplinary policy." According to Griffith,
86
the handbook was intended as a source of information for employees on bank procedures and as a
guideline within the bank so that people would know when vacations would be available and how
many days the employee would be allowed for vacations. Griffith testified that he never intended
the handbook to become part of an employee's employment contract with the bank.
In April 1979 Mettille received his annual performance review and with it a 7% raise.
Apparently, about this time he also took out a home improvement loan with the bank. The
following September state bank officials conducted an unannounced examination of the Pine River
State Bank, and after reviewing the loan portfolio, reported to Griffith that some "technical
exceptions" existed, i.e., failures to comply with the applicable law and regulations. Griffith then
ordered his own independent review of the 85 files noted in the examiner's report. This
investigation disclosed that 58 of the 85 files contained "serious" technical exceptions and that
Mettille was responsible for the serious technical exceptions in 57 of these 58 files. Thus, 28 files
showed no vehicle certificate of title; 33 files showed *625 no insurance covering the secured
collateral; 4 files showed inadequate insurance; 6 files showed failure to record financing
statements properly (although here the bank disagreed with the examiner that the financing statement
filings had been improper); and 4 files showed expired financing statements. Characterization of
these deficiencies as "serious" was made by the bank officers, because those errors created possible
loss to the bank. They testified that the defective files involved loans totaling over $600,000.
Mettille was home ill at the time of the audit by the bank examiners and the subsequent
review of the files by the bank. On September 28, 1979, Mettille returned to work. The president
called Mettille into his office and fired him. The parties at this time did not review the list of
technical exceptions. The disciplinary procedures outlined in the handbook were not followed, nor
was the handbook even mentioned. Mettille was given 2 months' severance pay.
The reason for Mettille's dismissal and whether that dismissal was for good cause were
sharply contested. The bank claimed that the only reason given for the dismissal was the existence
of loan errors, although excessive sick leave and a reduction in force were also factors. Mettille
alleged that he was fired because of a personality dispute with his superiors. He argued that no
problems were discovered in the course of previous bank examinations, that the exceptions in the
1979 audit were correctable and, in fact, were corrected within a month after he was fired. He
disputed that the exceptions were "serious." There was also testimony that Mettille had never
received any reprimands or complaints as to his performance prior to September 1979 and that he
was loyal and "tried hard." At the time of trial Mettille was still unemployed.
In November 1980 the bank sued Mettille on two notes on which he was in default. Mettille
counterclaimed, alleging that the bank had breached his contract of employment by dismissing him
without cause and in violation of required disciplinary procedures. The case was tried in January
1982 and the jury found: (1) that the parties had a contract under which the defendant could not be
terminated without good cause; (2) that the bank terminated Mettille without good cause; and (3)
that Mettille sustained damages of $27,675. The trial judge deducted from the damages award the
amount owed on the notes and ordered judgment in favor of Mettille and against the bank for
$24,141.07. Both parties moved for a new trial. The bank's main argument was that Mettille's
employment contract was at-will and that it was free to terminate him as it did. Mettille argued that
87
he should have been permitted to show mental anguish to recover more damages. The trial judge
denied both motions. Only the bank appeals.
The issues may be broadly stated: (1) Can a personnel handbook, distributed after
employment begins, become part of an employee's contract of employment? (2) If so, are job
security provisions in the handbook enforceable when the contract is of indefinite duration? and (3)
In this case, was the employee's summary dismissal without following the job termination
procedures of the handbook a breach of contract by the employer? Other issues to be discussed
briefly relate to evidentiary rulings and damages.
I.
Whether a handbook can become part of the employment contract raises such issues of
contract formation as offer and acceptance and consideration. We need first, however, to describe
the Pine River State Bank's handbook. It contains, as we have said, statements on a variety of the
bank's employment practices or policies, ranging from vacations and sick leave to personal conduct
and appearance. Our inquiry here, however, concerns only the job security provisions. A section
entitled "Performance Review" provides for at least an annual review of the employee's work. [FN1]
Another *626 section entitled "Job Security" speaks in general, laudatory terms about the stability
of jobs in banking. [FN2] The key section, central to this case, is entitled "Disciplinary Policy."
This section provides for what appears to be a three-stage procedure consisting of reprimands for the
first and second "offense" and thereafter suspension or discharge, but discharge only "for an
employee whose conduct does not improve as a result of the previous action taken." The section
concludes with the sentence, "In no instance will a person be discharged from employment without a
review of the facts by the Executive Officer." [FN3]
* * *
Generally speaking, a promise of employment on particular terms of unspecified duration, if
in form an offer, and if accepted by the employee, may create a binding unilateral contract. The
offer must be definite in form and must be communicated to the offeree. Whether a proposal is
meant to be an offer for a unilateral contract is determined by the outward manifestations of the
parties, not by their subjective intentions. Cederstrand v. Lutheran Brotherhood, 263 Minn. 520, 532,
117 N.W.2d 213, 221 (1962). An employer's general statements of policy are no more than that and
do not meet the contractual requirements for an offer. Thus, in Degen v. Investors Diversified
Services, Inc., 260 Minn. 424, 110 N.W.2d 863 (1961), where the employee was told he had a great
future with the company and to consider his job as a "career situation," we said these statements did
not constitute an offer for a lifetime employment contract.
If the handbook language constitutes an offer, and the offer has been communicated by
dissemination of the handbook to the employee, [FN4] the next question is *627 whether there has
been an acceptance of the offer and consideration furnished for its enforceability. In the case of
unilateral contracts for employment, where an at-will employee retains employment with knowledge
of new or changed conditions, the new or changed conditions may become a contractual obligation.
In this manner, an original employment contract may be modified or replaced by a subsequent
unilateral contract. The employee's retention of employment constitutes acceptance of the offer of a
88
unilateral contract; by continuing to stay on the job, although free to leave, the employee supplies
the necessary consideration for the offer. We have so held in Stream v. Continental Machines, Inc.,
261 Minn. 289, 293, 111 N.W.2d 785, 788 (1961), and Hartung v. Billmeier, 243 Minn. 148, 66
N.W.2d 784 (1954) (employer's promise of a bonus made after the employee started working held
enforceable).
FN4. Two of our cases, Cederstrand v. Lutheran Brotherhood, 263 Minn. 520, 117 N.W.2d
213 (1962), and Degen v. Investors Diversified Services, Inc., 260 Minn. 424, 110 N.W.2d
863 (1961), dealt with employee handbooks. In Cederstrand, a "control copy" of the
employer's personnel policies contained a provision that employees would not be dismissed
without good cause. We held, however, that since this dismissal provision did not appear in
the separate manuals given to employees it was not a contractual offer to employees but
merely a policy guide for supervisors. In Degen, the employer's personnel policy provided
for a preliminary discussion between the employee and his immediate supervisor and for a
dismissal interview with a member of the personnel department present before termination.
We held that the employer's failure to follow this procedure did not create a contract for
either lifetime or definite term employment. It is clear that the Pine River State Bank's
handbook, both with respect to its contents and its dissemination, differs markedly from the
situations in Cederstrand and Degen.
An employer's offer of a unilateral contract may very well appear in a personnel handbook as
the employer's response to the practical problem of transactional costs. Given these costs, an
employer, such as the bank here, may prefer not to write a separate contract with each individual
employee. See Note, Protecting At Will Employees against Wrongful Discharge: The Duty to
Terminate Only in Good Faith, 93 Harv.L.Rev. 1816, 1830 (1980). By preparing and distributing
its handbook, the employer chooses, in essence, either to implement or modify its existing contracts
with all employees covered by the handbook. Further, we do not think that applying the unilateral
contract doctrine to personnel handbooks unduly circumscribes the employer's discretion.
Unilateral contract modification of the employment contract may be a repetitive process. Language
in the handbook itself may reserve discretion to the employer in certain matters or reserve the right
to amend or modify the handbook provisions.
We conclude, therefore, that personnel handbook provisions, if they meet the requirements
for formation of a unilateral contract, may become enforceable as part of the original employment
contract.
II.
The next issue is whether handbook provisions relating to job security require special
treatment, i.e., whether they are an exception to the general rule just discussed. Put more precisely,
the question is whether, in an at-will hiring, the job security provisions in a subsequently adopted
employee handbook are enforceable. On this issue, the courts are split, see Sherman v. St. Barnabas
Hospital, 535 F.Supp. 564, 573 (S.D.N.Y.1982) (citing cases), and our own case law is unclear.
Where the hiring is for an indefinite term, as in this case, the employment is said to be "atwill." This means that the employer can summarily dismiss the employee for any reason or no
89
reason, and that the employee, on the other hand, is under no obligation to remain on the job. See
Cederstrand v. Lutheran Brotherhood, 263 Minn. 520, 532, 117 N.W.2d 213, 221 (1962). Nor will
a claim by the employee that he or she was promised "permanent" or "lifetime" employment change
the at-will nature of the hiring, Skagerberg v. Blandin Paper Co., 197 Minn. 291, 266 N.W. 872
(1936), at least not in the absence of some kind of additional consideration supplied by the employee
which is uncharacteristic of the employment relationship itself. Bussard v. College of St. Thomas,
294 Minn. 215, 200 N.W.2d 155 (1972).
Here the employee does not claim, nor could he, that he was promised "permanent"
employment. The law is hesitant to impose this burdensome obligation on an employer in the
absence of an explicit promise to that effect. See Degen v. IDS, Inc., 260 Minn. 424, 428-29, 110
N.W.2d 863, 866-67 (1963). Instead, the respondent employee is claiming that his job termination
was wrongful because the job security provisions set out in the employee handbook were not
followed. The appellant bank, relying on the "at- will" doctrine as expressed in our cases beginning
with Skagerberg, argues that without additional consideration, the job security provisions are not
enforceable. Other cases cited by the bank *628 hold that job termination restrictions, even if part
of a contract for an indefinite duration from the outset, can never be enforceable. See Shaw v. S.S.
Kresge, 167 Ind.App. 1, 328 N.E.2d 775 (1975).
This court did say, by way of dictum in Cederstrand, that parties to a contract for an
indefinite duration might transform the contract into one where the employee will not be dismissed
without cause, and we observed, "This is not to say that such a contract would be unenforceable."
263 Minn. at 536, 117 N.W.2d at 223. We need, therefore, to examine the three reasons given for
the unenforceability of job termination restrictions in an employment contract of indefinite duration:
(1) the at-will rule takes precedence over any such restrictions; (2) the restrictions ordinarily lack
the requisite additional consideration; and (3) mutuality of obligation is missing.
The first argument, that because the contract specifies no duration the parties did not intend
any job termination restrictions to be binding, is without merit. The argument misconstrues the atwill rule, which is only a rule of contract construction, as a rule imposing substantive limits to the
formation of a contract. See Restatement (Second) of Agency, ' 442, comment a (inference that
employment is at-will may be rebutted by specific terms of the agreement). The general rule is that
contracts for a specified duration can nonetheless be terminated during the period of the contract if
the employer has good cause. Thomsen v. Independent School District No. 91, 309 Minn. 391, 244
N.W.2d 282 (1976). When a contract is for an indefinite duration, the duration is not set, and a
corollary is that either party may then terminate it at any time for any reason. Further, if the
contract purports to establish "permanent employment," this will be interpreted as a contract for an
indefinite period, and hence also at-will. Thus, in Bussard v. College of St. Thomas, 294 Minn.
215, 223, 200 N.W.2d 155, 161 (1972), we said, "[T]he somewhat arbitrary rule of most jurisdictions
that a contract for 'permanent employment' will be construed to be terminable at the will of either
party * * * is arguably too mechanical an answer to the more basic issue of ascertaining the real
intent of the parties" (emphasis added). See also Note, Employment Contracts of Unspecified
Duration, 42 Colum.L.Rev. 107, 120-21 (1942).
The cases which reason that the at-will rule takes precedence over even explicit job
termination restraints, simply because the contract is of indefinite duration, misapply the at-will rule
90
of construction as a rule of substantive limitation on contract formation. See, e.g., Johnson v.
National Beef Packing Co., 220 Kan. 52, 551 P.2d 779 (1976); Shaw v. S.S. Kresge, 167 Ind.App.
1, 7, 328 N.E.2d 775, 779 (1975); Uriarte v. Perez- Molina, 434 F.Supp. 76 (D.C.D.C.1977). It
should not be necessary for an employee to prove a contract is of "permanent" employment or for a
specified term in order to avoid summary dismissal if the parties have agreed otherwise. There is no
reason why the at-will presumption needs to be construed as a limit on the parties' freedom to
contract. If the parties choose to provide in their employment contract of an indefinite duration for
provisions of job security, they should be able to do so.
The second argument against enforceability is, at first glance, more troublesome in view of
our case law. The argument is that a provision for job security in a contract of indefinite duration,
whether initially promised or subsequently added, is not binding without additional, independent
considerations other than services to be performed. In Skagerberg, we noted the general rule that
when an employee purchases "permanent" employment with a valuable consideration that is other
than and in addition to his services, the employment will be held to be continuous and to extend as
long as the employee's work is adequate and there is work to be done. This rule makes sense as a
presumption in construing contracts. Where the "permanent" employment is purchased with
additional consideration, we have better reason to believe that the parties, in discussing "permanent"
employment, were referring to lifetime employment and were not, instead, simply making *629 a
distinction between temporary or seasonal employment and employment which is steady or
continuing although nevertheless terminable at will. See Pugh v. See's Candies, Inc., 116
Cal.App.3d 311, 326, 171 Cal.Rptr. 917, 925 (1981) (most likely explanation for the independent
consideration rule is that it serves an evidentiary function, citing Bussard, supra ).
To say that a job security provision in a contract of indefinite duration is never enforceable
without additional consideration is to misconstrue the additional consideration exception recognized
in Skagerberg. The requirement of additional consideration, like the at-will rule itself, is more a
rule of construction than of substance, and it does not preclude the parties, if they make clear their
intent to do so, from agreeing that the employment will not be terminable by the employer except
pursuant to their agreement, even though no consideration other than services to be performed is
expected by the employer or promised by the employee. See Littell v. Evening Star Newspaper Co.,
120 F.2d 36, 37 (D.C.Cir.1941); Drzewiecki v. H & R Block, Inc., 24 Cal.App.3d 695, 703-04, 101
Cal.Rptr. 169, 174 (1972). See also Restatement (Second) of Contracts ' 80, comment a (1981) (a
single performance may furnish consideration for any number of promises). While language in
some of our cases may suggest otherwise, our discussion of additional, independent consideration in
Skagerberg, Cederstrand, Bussard and Degen was primarily in the context of the employee
attempting to avoid a discharge without cause by proving (albeit unsuccessfully in those cases)
"lifetime" or "permanent" employment. But none of our cases purport to hold that additional,
independent consideration is the exclusive means for creating an enforceable job security provision
in a contract of indefinite duration. Handbook provisions relating to such matters as bonuses,
severance pay and commission rates are enforced without the need for additional, new consideration
beyond the services to be performed. See DeGuiseppe, The Effect of the Employment-at-will Rule
on Employee Rights to Job Security and Fringe Benefits, 10 Fordham Urban L.J. 1 (1981). We see
no reason why the same may not be true for job security provisions. Accord Note, Protecting At
Will Employees, supra, 93 Harv.L.Rev. at 1819-20 (employee's continued labor despite freedom to
resign is ample consideration for all express or implied promises, including those relating to job
91
security). Thus, the consideration here for the job security provision is Mettille's continued
performance despite his freedom to leave. See, e.g., Carter v. Kaskaskia Community Action
Agency, 24 Ill.App.3d 1056, 1059, 322 N.E.2d 574, 576 (1974). As such, the job security
provisions are enforceable.
Finally, the third argument is that job security provisions lack enforceability because
mutuality of obligation is lacking. Since under a contract of indefinite duration the employee
remains free to go elsewhere, why should the employer be bound to its promise not to terminate
unless for cause or unless certain procedures are followed? The demand for mutuality of obligation,
although appealing in its symmetry, is simply a species of the forbidden inquiry into the adequacy of
consideration, an inquiry in which this court has, by and large, refused to engage. See Estrada v.
Hanson, 215 Minn. 353, 10 N.W.2d 223 (1943). "If the requirement of consideration is met, there is
no additional requirement of * * * equivalence in the values exchanged; or * * * 'mutuality of
obligation'." Restatement (Second) of Contracts ' 79 (1981). We see no merit in the lack of
mutuality argument; as we pointed out in Cardinal Consulting Co. v. Circo Resorts, 297 N.W.2d
260, 266 (Minn.1980), the concept of mutuality in contract law has been widely discredited and the
right of one party to terminate a contract at will does not invalidate the contract. See also Hartung
v. Billmeier, 243 Minn. 148, 66 N.W.2d 784 (1954); Weiner v. McGraw-Hill, Inc., 57 N.Y.2d 458,
443 N.E.2d 441, 457 N.Y.S.2d 193 (1982).
To summarize, we do not find the reasons advanced for the unenforceability of job security
provisions in an at-will hiring to be persuasive. We hold, therefore, that where an employment
contract is for an indefinite *630 duration, such indefiniteness by itself does not preclude handbook
provisions on job security from being enforceable, whether they are proffered at the time of the
original hiring or later, when the parties have agreed to be bound thereby. Supportive of the
rationale for this holding are, for example, Weiner v. McGraw-Hill, supra; Carter v. Kaskaskia
Community Action Agency, supra; Wagner v. Sperry Univac, 458 F.Supp. 505 (1978), aff'd without
opinion, 624 F.2d 1092 (1980); Moody v. Bogue, 310 N.W.2d 655 (Ia.App.1981), as well as our
own case of Cederstrand.
Not every utterance of an employer is binding. It remains true that "the employer's
prerogative to make independent, good faith judgments about employees is important in our free
enterprise system." Blades, Employment at Will vs. Individual Freedom: On Limiting the Abusive
Exercise of Employer Power, 67 Colum.L.Rev. 1404, 1428 (1967). Properly applied, we think that
the unilateral contract modification analysis appropriately accommodates the interests of the
employee and the employer.
DeVoe v. Cheatham
413 So.2d 1141 (Ala. 1982)
Supreme Court of Alabama.
92
Richard M. DeVOE
v.
Robert L. CHEATHAM, et al.
80-807.
April 30, 1982.
FAULKNER, Justice.
This is an appeal from an action to enjoin Richard DeVoe from competing with his former
employer by installing vinyl automobile roofs for another employer. The trial court granted the
injunction. We reverse.
On April 30, 1979, Richard DeVoe entered into an employment contract with Pop's Vinyl
Tops in Decatur, Alabama. The contract provided:
"In consideration of the aftersaid Employment and the extensive training
Employee shall receive in connection therewith Employee agrees that at no time
while employed by Company nor within a two year period after the termination
of such employeement [sic] will employee disclose any customer list or supplies
to any person or firm, nor will he, within a five year period compete directly with
Company or indirectly with Company in the business of selling, repairing,
installing or manufacturing vinyl roofs within the areas of: Fifty mile radius of
the city of Decatur, Alabama."
The contract also provided a weekly salary of $200.00. The contract did not provide a term
of agreed employment, and thus was terminable at will.
DeVoe had little or no experience in installing vinyl tops. Mr. Cheatham, the owner of Pop's
Vinyl Tops, taught DeVoe how to install the tops. The record indicates *1142 that DeVoe became
proficient in the installation of tops, moldings and stripes on cars.
Mr. Cheatham terminated DeVoe's employment, in May, 1980, and rehired him six weeks
later. Mr. Cheatham testified that he discharged DeVoe because DeVoe was overextending himself
with other odd jobs. DeVoe testified that Cheatham had fired him because the company was not
making enough profit to pay his salary. DeVoe voluntarily terminated his employment with
Cheatham in November, 1980, and became employed by a competing vinyl top shop.
Cheatham and Pop's Vinyl Tops brought suit to enjoin DeVoe from competing. The trial
court granted a preliminary injunction. On March 10, 1981, the trial judge entered a motion
granting a permanent injunction for five years.
Section 8-1-1, Code 1975, provides:
93
"(a) Every contract by which anyone is restrained from exercising a lawful
profession, trade or business of any kind otherwise than is provided by this
section is to that extent void.
"(b) One who sells the good will of a business may agree with the buyer and one
who is employed as an agent, servant or employee may agree with his employer
to refrain from carrying on or engaging in a similar business and from soliciting
old customers of such employer within a specified county, city or part thereof so
long as the buyer, or any person deriving title to the good will from him, or
employer carries on a like business therein.
"(c) Upon or in anticipation of a dissolution of the partnership, partners may
agree that none of them will carry on a similar business within the same county,
city or town, or within a specified part thereof, where the partnership business
has been transacted."
This statute expresses the public policy of Alabama that contracts in restraint of trade are
disfavored. See Cullman Broadcasting Co. v. Bosley, 373 So.2d 830 (Ala.1979); Robinson v.
Computer Servicenters, Inc., 346 So.2d 940 (Ala.1977), Hill v. Rice, 259 Ala. 587, 67 So.2d 789
(1953). The courts will not enforce the terms of such a negative covenant unless:
(1) the employer has a protectable interest;
(2) the restriction is reasonably related to that interest;
(3) the restriction is reasonable in time and place;
(4) the restriction imposes no undue hardship.
See Code 1975, ' 8-1-1; Id.
In the present case, the restriction is not enforceable because the employer, Cheatham, has no
protectable interest in restraining DeVoe from working for another vinyl top business. In order to
have a protectable interest, the employer must possess "a substantial right in its business sufficiently
unique to warrant the type of protection contemplated by [a] noncompetition agreement." Cullman
Broadcasting Co. v. Bosley, 373 So.2d at 836.
The Restatement (Second) of Contracts ' 188, Comment B (1979), explains when a
promisee/employer has a sufficient interest to warrant protection:
"The extent to which the restraint is needed to protect the promisee's interests
will vary with the nature of the transaction. Where a sale of good will is
involved, for example, the buyer's interest in what he has acquired cannot be
effectively realized unless the seller engages not to act so as unreasonably to
diminish the value of what he has sold. The same is true of any other property
interest of which exclusive use is part of the value. ... In the case of a postemployment restraint, however, the promisee's interest is less clear. Such a
restraint, in contrast to one accompanying a sale of good will, is not necessary in
order for the employer to get the full value of what he has acquired. Instead, it
must usually be justified on the ground that the employer has a legitimate interest
in restraining the employee from appropriating valuable trade information and
customer relationships to which he *1143 has had access in the course of his
94
employment. Arguably the employer does not get the full value of the
employment contract if he cannot confidently give the employee access to
confidential information needed for most efficient performance of his job. But it
is often difficult to distinguish between such information and normal skills of the
trade, and preventing use of one may well prevent or inhibit use of the other. ...
Because of this difference in the interest of the promisee, courts have generally
been more willing to uphold promises to refrain from competition made in
connection with sales of good will than those made in connection with contracts
of employment."
If an employee is in a position to gain confidential information, access to secret lists, or to
develop a close relationship with clients, the employer may have a protectable interest in preventing
that employee from competing. But in the present case, DeVoe learned no more than the normal
skills of the vinyl top installation trade, and he did not engage in soliciting customers. There is no
evidence that he either developed any special relationship with the customers, or had access to any
confidential information or trade secrets. A simple labor skill, without more, is simply not enough
to give an employer a substantial protectable right unique in his business. To hold otherwise would
place an undue burden on the ordinary laborer and prevent him or her from supporting his or her
family.
In view of the facts of this case, we find that the trial court should not have granted injunctive
relief. The judgment is reversed and the cause is remanded.
REVERSED AND REMANDED.
TORBERT, C. J., and ALMON, EMBRY and ADAMS, JJ., concur.
National Recruiters, Inc. v. Cashman
323 N.W.2d 736 (Minn. 1982)
Supreme Court of Minnesota.
NATIONAL RECRUITERS, INC., Respondent,
v.
Daniel "Marty" CASHMAN, et al., Appellants.
No. 81-241.
Aug. 27, 1982.
WAHL, Justice.
95
This appeal involves four cases consolidated for trial in Hennepin County District Court.
Respondent National Recruiters, Inc. (National) sought damages and an injunction to enforce a
restrictive covenant against appellants, four of its former employees. National also brought actions
against Career Resources, Inc.; Career Resources' president, Micah Garber; and Corporate
Resources, Inc., for tortious interference with contractual relations between National and its
employees. Appellant employees counterclaimed for their vested interests in National's profitsharing plan and trust, and appellant Cashman counterclaimed for defamation of his business, trade
and professional reputation. The trial court found the restrictive covenant valid and awarded
National liquidated damages, denied National's claim of tortious interference, granted appellants'
counterclaims for their vested interests in the profit- sharing plan and denied Cashman's defamation
claim. We affirm in part, reverse in part, and remand for further proceedings.
National is an employment agency owned and managed by Arnold Stern. It hires recruiters
who are responsible for finding applicants and filling orders from companies that are looking for
employees. The recruiters work in one of four areas of specialization, making phone contact with
personnel people at various companies and gathering information about available jobs. National
does not have exclusive agreements with either the applicants or the companies from which it seeks
job orders. Much of the information handled by the recruiters is public and readily accessible.
Appellants Bujold, Strong, Cashman and Holtzman were all employed as recruiters for
National. Each had prior sales experience, and each had been unemployed for a period of time
before beginning with National. Strong, Cashman and Holtzman were 51, 50 and 45 years of age
respectively and were highly experienced. During the employment interview, each appellant was
told of the compensation he would receive by way of commissions and bonuses and of National's
pension plan. None was told that he would be required to sign a noncompetition agreement.
Appellants were told to report to work on Monday morning. After coming to work, they
were told they would have 2 days to prepare for a State Licensing Examination which they took the
following Wednesday. Thereafter, each was presented with a noncompetition agreement and told
that he must sign the agreement in order to work for National. Bujold was given the contract
sometime after he had taken the examination, Cashman and Holtzman were given the contract on
Friday of their first week, and Strong was shown the contract 1 week after starting work. Each
signed the noncompetition provision under protest.
*739 The noncompetition covenant consisted of an agreement not to compete for a period of 1 year
within 50 miles of the Minneapolis office of National or the Minneapolis Courthouse. It provided
that, upon violation of the covenant, National could seek injunctive relief to prevent further
competition and could obtain liquidated damages equal to an "agreed value" for the training
received. For Bujold, Holtzman and Strong, this amount was $2,500. For Cashman, this was
$5,000 for the training, plus an additional $10,000 as "liquidated damages." The contracts also
provided for an additional payment in the event a former employee became associated as "owner,
operator, partner, officer, principal, shareholder, manager, departmental supervisor or in any other
equity position in an employment agency" within 1 year after leaving National. (Emphasis in
original.) The Bujold, Holtzman and Strong contracts provided for $15,000 payments and the
Cashman contract for a $50,000 payment in the event of a breach of this clause.
96
All four appellants went to work at other employment-recruitment agencies after leaving
National. Bujold, who was fired in July 1978, and Strong, who left National in 1980, went to
Corporate Resources, Inc., one of the defendants in the court below. After being fired by Stern,
Cashman went to Career Resources, Inc., another of the defendants in this case. Holtzman left
National in January 1980 and began work in April of that year at another employment agency which
he later purchased.
Bujold made three placements between 6 months and 1 year after leaving National, two of
which grossed fees in the amounts of $4,300 and $2,800. Strong made one placement generating a
$3,440 fee after leaving National. Cashman made two placements after termination of his
employment with National, one for $4,000 and another for $7,500. Holtzman was the most
successful of the appellants, making two placements within the 6 months following termination, and
several placements thereafter.
Stern drafted the noncompetition agreement to prevent employees from setting up a business
and placing applicants whose names they had obtained while employed at National. The agreement
had been modified over the years to protect against any competition that would be damaging to
Stern's firm's business.
National sued each of the appellants for violating terms of the
noncompetition agreement and, in addition, refused to pay appellants their vested interests in
National's profit-sharing plan because of the alleged breach. National contended at trial that it could
suffer damages in several ways: (1) if a former employee were to make placements at a firm
National also contacts, (2) if a former employee were getting job orders from a company National
also contacts, or (3) if a former employee were to deal with an applicant with whom National also
dealt. In the first instance, the damages would be the net profit National would have earned by
making the placement; in the second and third instances, damages would be more difficult to
determine.
In the course of working as employment recruiters at their new firms, appellants had occasion
to call many of the same companies they had called while searching for job openings at National.
However, they did not try to imply to these companies that they still worked for National and, with
one exception, did not keep in contact with applicants with whom they had worked at National. The
exception involved an applicant with whom Cashman had dealt. Cashman stopped dealing with the
applicant and with the company that had the job opening after Stern complained to Cashman's
superior.
While working for National, recruiters worked with several different forms that Stern had
developed over the years. These included referral notices, acceptance letters and job-order forms.
They also had access to lists of companies that had provided job orders and maintained files on the
people they had contacted. Corporate Resources uses a referral notice and acceptance letter which
are very similar to those used by National, but its job-order form is somewhat different.
* * *
This appeal raises four issues: (1) whether the noncompetition covenant, which is part of
each appellant's employment contract, is valid and enforceable; (2) whether appellants have
forfeited their vested interests in National's profit-sharing plan; (3) whether Corporate Resources,
Inc., or Career Resources, Inc., and its president, Micah Garber, are subject to damages for tortious
97
interference of contractual relations between Cashman and National; and (4) whether the trial court
erred in denying Cashman's defamation claim because Cashman had not proved actual damages.
1.
We look upon restrictive covenants with disfavor, carefully scrutinizing them because they
are agreements in partial restraint of trade. Bennett v. Storz Broadcasting Co., 270 Minn. 525, 533,
134 N.W.2d 892, 898 (1965) (citations omitted). Where such a covenant is not ancillary to the
initial oral employment contract, it can be sustained only if supported by independent consideration.
Modern Controls, Inc. v. Andreadakis, 578 F.2d 1264 (8th Cir. 1978). Appellants in the case at bar
were told of National's compensation provisions and pension plan before beginning work. They
agreed to work for National and, in fact, did begin work before being presented with the
noncompetition clause and told they were required to sign it. The clause was not bargained for. It
was not ancillary to the employment agreement. It must be supported by independent consideration.
Was the noncompetition agreement supported by independent consideration? National
argues, as did the employer in Davies & Davies Agency, Inc. v. Davies, 298 N.W.2d 127
(Minn.1980), that continued employment is sufficient consideration for a noncompetition agreement
even where that agreement has not been bargained for. In Davies we required more. As to one
employee, Richard Davies, who had not been shown the agreement and did not sign it until 4 months
after beginning work, we found that continued employment for 10 years, advancement within the
agency, and increased responsibility formed sufficient consideration to support a restrictive covenant
in the employment agreement.
A second employee of the Davies Agency, Robert Buckingham, knew before beginning work
that he would be required to sign a noncompetition agreement. He was not aware of the terms of the
agreement and was not shown and asked to sign the agreement until 11 days after beginning work.
We held that continued employment alone was not sufficient to support the covenant. *741 Unlike
Richard Davies, Buckingham had not "derived substantial economic and professional benefits from
the agency after signing the contract." Id. at 131. We affirmed the trial court's decision that the
noncompetition agreement was without consideration and unenforceable.
"The adequacy of consideration for a noncompetition contract or clause in an ongoing
relationship should depend on the facts of each case." Id. at 130. The training that appellants
received and which was set forth as consideration in the written contract did not, in fact, constitute
consideration for the noncompetition clause because it was part of the oral employment agreement.
It was not a real advantage bargained for in consideration of signing the contract. There was no
advantage which inured to appellants' benefit as a result of the signing of the noncompetition
agreement.
The practice of not telling prospective employees all of the conditions of employment until
after the employees have accepted the job, like the practice of requiring a lie detector test in State v.
Century Camera, Inc., 309 N.W.2d 735 (Minn.1981), takes undue advantage of the inequality
between the parties. Appellants and National were parties to an employment agreement after they
had completed negotiations on compensation, duties, benefits and other terms of employment. See
Kistler v. O'Brien, 464 Pa. 475, 347 A.2d 311 (1975). An addition to that agreement would require
independent consideration. We hold the noncompetition clause invalid because it was unsupported
by such additional independent consideration. Because we reverse the trial court on this issue and
98
find the noncompetition clause invalid, we do not consider the propriety of either the liquidateddamages clause or the denial of injunctive relief.
2.
National argues that its profit-sharing plan was properly amended after appellants began
work to provide for a forfeiture of benefits in the event of an employee's breach of the
noncompetition agreement and that, by breaching the agreement, appellants forfeited their vested
interests in that plan. Since we have held that the noncompetition agreement is invalid because
unsupported by consideration, there can be no breach of the agreement. We affirm the trial court's
determination that appellants did not forfeit their vested interests in the profit-sharing plan.
3.
National's argument that Corporate Resources, Inc., Career Resources, Inc., and Micah
Garber induced appellants Strong and Cashman to breach their noncompetition covenants is without
merit. National did not prove a necessary element of a claim of tortious interference: that either
Corporate Resources, Inc., Career Resources, Inc., or Micah Garber intentionally procured a breach
of the contract. Snowden v. Sorenson, 246 Minn. 526, 532, 75 N.W.2d 795, 799 (1956). In order to
prove that the two companies and Garber intentionally induced Cashman and Strong to violate their
noncompetition covenant, National must show more than the mere offering of a job. We affirm the
trial court's finding that there has been no tortious interference with contractual relations between
National and its former employees, Cashman and Strong.
4.
Cashman contends that the trial court erred in refusing to find slander per se on the basis that
no actual damages were proved. In Minnesota, "[w]hen words are defamatory per se * * * punitive
damages are recoverable without proof of actual damages." Anderson v. Kammeier, 262 N.W.2d
366, 372 (Minn.1977). Therefore, the question is not whether Cashman suffered actual damages but
whether Stern's words were defamatory per se.
The determination of whether Stern's communication was defamatory was a question of fact
for the court.
[I]mputations affecting a person's conduct of business, trade, or profession are
actionable without proof of special damage. The words, however, must be
peculiarly harmful to the person in his business. General disparagement is
insufficient. *742 It must depend on the occupation and the particular statement.
In other words, the remarks must relate to the person in his professional
capacity and not merely as an individual without regard to his profession.
Id. at 372.
Stern characterized Cashman to his new employer, Garber, as "nothing but a god damn loser,
a no good son of a bitch." Stern testified at trial that desire, motivation, commitment to business,
intelligence and maturity are critical to success in the employment agency business. To characterize
Cashman as a loser was to attack those qualities which are essential to success. We find as a matter
of law that the words "nothing but a god damn loser, a no good son of a bitch," applied to an
employment recruiter in a conversation with that employee's subsequent employer, to be slander per
se and remand this part of the case to the trial court for assessment of punitive damages.
99
We reverse the judgment of the trial court insofar as it upholds the noncompetition clause and
awards damages for breach of that clause. We affirm the trial court's determination that appellants
did not forfeit their vested interests in a profit-sharing plan and its finding of no tortious interference
with contractual relations. We remand to the trial court only the defamation counterclaim for a
determination of punitive damages.
Reversed in part, affirmed in part and remanded.
Safety-Kleen v. McGinn
233 F.Supp.2d 121
United States District Court,
D. Massachusetts.
SAFETY-KLEEN SYSTEMS, INC., Plaintiff,
v.
Michael McGINN, Defendant.
Sept. 24, 2002.
MEMORANDUM AND ORDER
LASKER, District Judge.
Safety-Kleen, Inc., a corporation providing hazardous waste collection and recycling
services, moves for a preliminary and permanent injunction restraining Michael McGinn, a former
Safety-Kleen employee now working for Heritage Crystal-Clean (HCC), a Safety-Kleen competitor,
from working in any sales or service capacity for HCC or any other Safety-Kleen competitor for a
period of one year; from working, in any capacity, for HCC or any other Safety-Kleen competitor in
any geographic region in which he previously worked for Safety-Kleen, for a period of one year;
from using or disclosing any of Safety-Kleen's confidential information at any time; and from
soliciting any of Safety-Kleen's customers or employees for a period of one year.
Safety-Kleen's motion is denied.
I.
McGinn was employed by Safety-Kleen from October 1984 until May 2002. In the final
four-and-a-half years of his employment, he worked as District Manager for Safety-Kleen's New
England district, supervising branch facilities in Vermont, New Hampshire, Maine, Massachusetts
and Rhode Island. For a short period, he also supervised branches in upstate New York and Erie,
Pennsylvania. McGinn earlier worked as a branch manager trainer, training all new branch
100
managers for the Central and Midwestern United States.
On May 17, 2002, McGinn notified Safety-Kleen of his resignation. In June he began
working for HCC in Harrisburg, Pennsylvania, where he is developing a new HCC branch.
McGinn signed several employment agreements and restrictive covenants with Safety-Kleen
during his employment. The most recent, a Non-Competition and Non-Disclosure Agreement
executed on September 4, 2001, is the subject of the present action. The Agreement provides in
pertinent part that McGinn will not, for a period of one year after the date of termination of his
employment, (1) engage "in any business which provides products and/or services similar to those
provided by the Company" within McGinn's "Geographic Area," (2) solicit business from any
"person, firm, or corporation, who or which was a customer or prospect of the Company in the
Geographic Area, during Employee's employment with the Company and with whom Employee had
business contact while employed by the Company," or (3) disclose any of Safety-Kleen's
confidential information without limitation as to time or location. "Geographic Area" is defined as
"[w]ithin any county in any state in which Employee provides services for the Company during his
employment, or conducts business."
The parties agree that McGinn is working for a Safety-Kleen competitor, and that Harrisburg
lies outside the geographic area in which McGinn previously worked for Safety-Kleen. The
principal disputes revolve around McGinn's alleged disclosure of Safety-Kleen's confidential
information and his solicitation of Safety-Kleen customers in Harrisburg.
II.
As prerequisites for preliminary injunctive relief, a plaintiff must establish that (1) it has a
substantial likelihood of success on the merits, (2) there exists, absent injunctive relief, a significant
risk of irreparable harm to it, (3) the balance of hardship weighs in its favor, and (4) granting the
injunction will not negatively affect the public interest. TEC Engineering Corp. v. Budget Molders
Supply Inc., 82 F.3d 542, 544 (1st Cir.1996).
III.
A. Likelihood of success on the merits
Safety-Kleen asserts that, as New England District Manager, McGinn had access to
significant confidential customer information. It further contends that at a national Safety-Kleen
sales conference in April 2002, which McGinn attended, the company made a number of
presentations on confidential new marketing and management strategies. Safety-Kleen makes much
of the fact that McGinn attended this conference after negotiating with HCC for a position and filling
out an HCC employee "start packet" that included insurance enrollment and direct deposit forms.
Safety-Kleen points to the sequence of events as evidence of bad faith on McGinn's part. It argues
that under the circumstances, it would be impossible for McGinn to work in a sales or service
position for a Safety-Kleen competitor anywhere in the country, or solicit Safety-Kleen customers
anywhere in the country, without disclosing some of the confidential information he gained during
his time at Safety-Kleen. It seeks an injunction restraining McGinn from working for a competitor
or soliciting Safety-Kleen customers on a theory of "inevitable disclosure." See PepsiCo, Inc. v.
101
Redmond, 54 F.3d 1262 (7th Cir.1995) (affirming grant of injunctive relief on the basis of a showing
that defendant "[could not] help but rely on [plaintiff's] trade secrets as he helps plot [a competitor's]
new course").
McGinn responds that PepsiCo is distinguishable from the facts of the present case and that
as a matter of law, the inevitable disclosure doctrine does not apply in this case. The PepsiCo court,
McGinn argues, applied an Illinois statute empowering the court to enjoin "actual or threatened
misappropriation of a trade secret." 765 ILCS 1065/3(a) (emphasis added). In contrast, the
Massachusetts statute, which governs in this case, requires a showing that the employee "has used" a
trade secret improperly. M.G.L. Ch. 93 § 42A. Moreover, McGinn disputes the factual allegation
that he acquired a significant amount of confidential information regarding customers or marketing,
contending that he had little customer contact as Regional Manager and that the sales conference he
attended was more of a pep rally than a substantive event. He further asserts that he had and has no
hand in shaping HCC's sales or marketing initiatives. He states that his present solicitation method
on behalf of HCC consists of driving down the street, "cold calling" on businesses that may be in
need of HCC's services, and that he discloses no confidential Safety-Kleen information in the
process. Finally, he asserts that he has not solicited any customer with whom he had contact while a
Safety-Kleen employee.
Safety-Kleen has failed to show a likelihood of success on the merits of these claims. SafetyKleen has not established the occurrence of any actual disclosure by McGinn. For the reasons cited
by McGinn, Pespico is distinguishable from the present case. Regardless of how much confidential
information McGinn possesses (itself a matter of dispute), Massachusetts law provides no basis for
an injunction without a showing of actual disclosure.
Moreover, Safety-Kleen has failed to produce evidence that McGinn has breached the
agreement by soliciting any customers with whom he was in contact while at Safety-Kleen. This is
the only type of solicitation prohibited by the Agreement. For the reasons cited above, the inevitable
disclosure doctrine does not apply to this case, and there is thus no legal basis for extending the
scope of the Agreement in the manner requested.
B. Irreparable Harm, Balance of Hardships, and Public Interest
Since Safety-Kleen has failed to establish a likelihood of success on the merits, it is
unnecessary to deal in depth with the issues of irreparable harm, the balance of hardships, and the
public interest. However, on the present record, Safety-Kleen has not established that it is being
harmed at all (much less irreparably). It also appears, on the present record, that the balance of
hardships would favor an individual defendant, such as McGinn, whose livelihood would be
seriously and adversely disrupted. The public interest in this dispute, while not adversely affected, is
minimal.
IV.
The motion for a preliminary and permanent injunction is DENIED. McGinn remains under
a contractual duty not to violate the terms of the Agreement. If evidence is introduced at trial
indicating that he has done so, this court will be prepared to impose sanctions.
102
It is so ordered.
Maryland Metals, Inc. v. Metzner
282 Md. 31, 382 A.2d 564 (1978)
MARYLAND METALS, INC.
v.
Sidney S. METZNER et al.
No. 100.
Court of Appeals of Maryland.
Feb. 1, 1978.
*33 LEVINE, Judge.
In this appeal we consider the extent to which officers and high-level managerial employees
may, prior to termination of the employment relationship, make preparations to compete with their
corporate employer without violating fiduciary obligations running to the corporation. The
chancellor (Rutledge, J.), sitting in the Circuit Court for Washington County, denied the **566
request of appellant, Maryland Metals, Inc., for injunctive relief and damages against two former
employees and corporations formed by them (appellees here), ruling that the individual appellees
had not acted wrongfully in merely preparing to form and finance a competitive enterprise before
severing their ties with appellant. Upon issuance of an order dismissing its amended bill of
complaint, appellant noted an appeal to the Court of Special Appeals, but we granted certiorari in
advance of oral argument in that court. We now affirm.
I
Appellant, located in Hagerstown, is engaged in the business of buying, processing and
selling scrap metal obtained from automotive, industrial and miscellaneous sources. Prior to its
incorporation in 1955, the company had been operated as a sole proprietorship by the late Harry
Kerstein (Harry), who founded the business in the 1930's and later became the corporation's sole
stockholder. On his death in June 1973, he was succeeded as president by his son, *34 Robert
Kerstein (Robert), a graduate of the University of Pennsylvania, Wharton School of Finance.
In 1951, Harry engaged, at a starting salary of $85 per week, appellee Sidney S. Metzner
(Metzner), who was then recently graduated from college with a degree in business administration
and had been employed by a national retail chain in its management training program. With Metzner
103
playing a major role, the business grew and prospered in the ensuing years. On formation of the
corporation in 1955, he was named secretary. By June 1974, when he resigned, Metzner had risen to
the position of executive vice president and was earning in excess of $80,000 a year. In 1970,
appellant employed appellee George W. Sellers, III (Sellers), on Metzner's recommendation, at a
starting annual salary of $20,000. Initially Sellers occupied the position of operations manager
because of his proven talents in maintaining heavy machinery. He gradually demonstrated
managerial capability as well and at the time of his dismissal in late May 1974, held the position of
vice president in charge of operations, earning in excess of $31,000 a year.
Rapid technological advances in the design and manufacture of scrap processing machinery
contributed significantly to the genesis of this dispute. In 1966, appellant purchased at a total cost of
some $400,000 a piece of equipment described in the trade as a guillotine shear.[FN1] Even as it
was awaiting delivery of the shear, appellant was already studying the potential of a newer and more
revolutionary machine known as a "shredder." [FN2]
* * *
*35 Between 1966 and 1973, Metzner was dispatched on several assignments to inspect
shredding operations in other parts of the country. On returning from certain key inspection trips, he
submitted recommendations urging the acquisition of a shredder. His last such report and
recommendation was dated May 1, 1974, only four weeks before he tendered his resignation.
In September 1970, appellant's board of directors authorized Harry Kerstein to purchase a
shredding machine from Newell Manufacturing Company of San Antonio, Texas, one of two leading
manufacturers of **567 such machines, for the sum of $384,000. Appellant thereupon entered into a
cancellable purchase agreement with Newell and also acquired an option to purchase some 40 acres
of land in the Hetzler Industrial Park near Hagerstown, which was suitable for a shredding operation
from both a physical and a zoning standpoint. Several weeks later, however, appellant's board of
directors voted to defer purchase of the shredding machine, citing several reasons, including a
downward trend in the market price for shredded scrap, which apparently proved to be temporary,
and some uncertainty as to the proficiency of the machine. Consequently the order was cancelled
and the option on the land allowed to expire without being exercised.
Following Harry's death in June 1973, appellant resumed its interest in a shredding operation.
Once again Metzner, now assisted by Sellers, was instructed to conduct an appropriate investigation
in the summer and fall of 1973, and to report the outcome of those efforts to the corporation.
Metzner and Sellers complied with these instructions in some detail and urged Robert to acquire a
shredder immediately.
What transpired beginning in November 1973, is the subject of some dispute in the
testimony. Metzner maintains that he had a discussion with Robert in November during which he
expressed his unwillingness to continue with *36 appellant unless he could own some equity in the
corporation. Robert replied that this was impossible because his father, as sole stockholder, had
transferred his holdings to a testamentary trust. According to his testimony, Metzner then proposed
that a new corporation be formed to acquire and operate a shredder in which he, Sellers and Robert
(or appellant) would each own a one- third interest, with the necessary initial capital investment of
104
some $300,000 being advanced by Robert or appellant. Robert acknowledges the substance of this
discussion, but beyond this point the Metzner-Sellers version of what occurred differs in one
material respect from Robert's account. Metzner testified that he then flatly advised Robert that if he
would not join with Metzner and Sellers in the equal ownership of a shredder, they would purchase
and operate one without his participation. This was corroborated by Sellers who had held his own
independent discussion with Robert.
Conceding the first part of the discussion, Robert maintained that he never received explicit
notice of any intention on the part of Metzner or Sellers to leave Maryland Metals and to start their
own competing business. He testified that he had merely offered to consider the possibility of a
profit-sharing plan for both Metzner and Sellers. Robert further claims to have informed them
unequivocally in November that he would not consider any arrangement in which he or Maryland
Metals did not own the entire shredding operation.
In the meantime Metzner and Sellers had initiated in November a series of steps preparatory
to the establishment of a shredding facility independent of Maryland Metals. These measures, which
we shall recount later, are the basis for the present dispute. Professing to be unaware of the
preparations being made by Metzner and Sellers, Robert raised Sellers' salary in March 1974 from
$25,000 to $31,200. Despite the plans being made by Sellers and Metzner in 1974, they both
continued until the very last day of their employment, as they had throughout their careers, to apply
their considerable talents and to work long hours in behalf of Maryland Metals.
II
Appellant's principal contention on appeal is that by deliberately failing to disclose in detail
their preliminary arrangements to enter into competition with Maryland Metals, while serving as
appellant's officers and employees, appellees committed a "gross breach of their fiduciary duty" of
loyalty, thereby entitling appellant, as a matter of law, to an injunction restraining further operation
of appellees' rival scrap metal processing business.
In defining the scope of the right of an employee or corporate officer to enter into
competition with his former principal **568 and in delimiting the countervailing right of an
employer to restrain his agent's competitive endeavors both before and after termination of
employment, the law seeks to harmonize two important and ofttimes conflicting policies. The first
of these policy considerations is that commercial competition must be conducted according to basic
rules of honesty and fair dealing. As we stated in Edmondson Vil. Theatre v. Einbinder, 208 Md. 38,
44, 116 A.2d 377 (1955), the tendency of the law, both legislative and common, has been in the
direction of enforcing increasingly higher standards of fairness or commercial morality in trade. In
policing the ethics and conventions of the marketplace, courts have paid particular attention to
problems associated with competition between employees and their former employers. Because
corporate managerial personnel enjoy a high degree of trust and confidence in performing their
assigned functions, a potential exists for serious abuse of confidentiality whenever personnel attempt
to aggrandize their own economic interests at the expense of the employer. Fairness dictates that an
employee not be permitted to exploit the trust of his employer so as to obtain an unfair advantage in
competing with the employer in a matter concerning the latter's business. Kademenos v. Equitable
105
Life Assurance Soc. of U. S., 513 F.2d 1073, 1076 (3d Cir. 1975); Restatement (Second) of Agency
s 387, Comment b (1957).
This concern for the integrity of the employment relationship has led courts to establish a rule
that demands *38 of a corporate officer or employee an undivided and unselfish loyalty to the
corporation. See Guth v. Loft, Inc., 23 Del.Ch. 255, 5 A.2d 503, 510 (S.Ct.1939). Thus, we have
read into every contract of employment an implied duty that an employee act solely for the benefit of
his employer in all matters within the scope of employment, avoiding all conflicts between his duty
to the employer and his own self- interest. C-E-I-R, Inc. v. Computer Corp., 229 Md. 357, 366, 183
A.2d 374 (1962); Maryland Credit v. Hagerty, 216 Md. 83, 90, 139 A.2d 230 (1958); De Crette v.
Mohler, 147 Md. 108, 115, 127 A. 639, 642 (1925) ("Experience has taught that no man can serve
two masters"). And see Cumb. Coal & Iron Co. v. Parish, 42 Md. 598, 605-606 (1875) (recognizing
a similar duty with respect to corporate directors and officers).
A direct corollary of this general principle of loyalty is that a corporate officer or other highechelon employee is barred from actively competing with his employer during the tenure of his
employment, even in the absence of an express covenant so providing. Ritterpusch v. Lithographic
Plate, 208 Md. 592, 602, 119 A.2d 392 (1956); accord, Becker v. Bailey, 268 Md. 93, 98-99 n. 2,
299 A.2d 835 (1973); Restatement (Second) of Agency s 393 (1957); 3 W. Fletcher, Cyclopedia of
the Law of Private Corporations s 856 (Perm. ed. 1975). Thus, prior to his termination, an employee
may not solicit for himself business which his position requires him to obtain for his employer. He
must refrain from actively and directly competing with his employer for customers and employees,
and must continue to exert his best efforts on behalf of his employer. C-E-I-R, Inc. v. Computer
Corp., 229 Md. at 366, 183 A.2d 374.
Once the employment relationship comes to an end, of course, the employee is at liberty to
solicit his former employer's business and employees, subject to certain restrictions concerning the
misuse of his former employer's trade secrets and confidential information. Ritterpusch v.
Lithographic Plate, 208 Md. at 602, 119 A.2d 392; Abbott Redmont Thinlite Corporation v.
Redmont, 475 F.2d 85, 89 (2d Cir. 1973).
The second policy recognized by the courts is that of safeguarding society's interest in
fostering free and vigorous competition in the economic sphere. Thus, as Judge *39 Oppenheimer
stated for this Court in Operations Research v. Davidson, 241 Md. 550, 575, 217 A.2d 375, 389
(1966):
"(I)t is important to the free competition basic to our national development as
well as to the individual rights of employees who want to go into business for
themselves **569 that their spirit of enterprise be not unduly hampered."
Furthermore, courts have been receptive to the view that every person has or at least ought to have
the right to ameliorate his socio-economic status by exercising a maximum degree of personal
freedom in choosing employment. Travenol Laboratories, Inc. v. Turner, 30 N.C.App. 686, 228
S.E.2d 478, 483 (1976); see Fulton Laundry Co. v. Johnson, 140 Md. 359, 362, 117 A. 753, 23
A.L.R. 420 (1922); Comment, 29 U.Chi.L.Rev. 339, 351 (1962); Note, 4 Duke B.J. 16 (1954). But
see 1 R. Callmann, The Law of Unfair Competition, Trademarks and Monopolies s 1.3, at 12 (3d ed.
106
1967) ("The theory that the employee enjoys the right to a free and open market flagrantly ignores
reality").
This policy in favor of free competition has prompted the recognition of a privilege in favor
of employees which enables them to prepare or make arrangements to compete with their employers
prior to leaving the employ of their prospective rivals without fear of incurring liability for breach of
their fiduciary duty of loyalty. Operations Research v. Davidson, 241 Md. at 572, 217 A.2d 375;
Ritterpusch v. Lithographic Plate, 208 Md. at 602, 119 A.2d 392; see also United Aircraft Corp. v.
Boreen, 413 F.2d 694, 700 (3d Cir. 1969); Keiser v. Walsh, 73 App.D.C. 167, 168, 118 F.2d 13, 14
(1941) ( "an agent need not wait until he is on the street before he looks for other work"); BancroftWhitney Company v. Glen, 64 Cal.2d 327, 49 Cal.Rptr. 825, 839, 411 P.2d 921, 935 (1966).[FN3]
* * *
"Admittedly the mere decision to enter into *40 competition will eventually
prove harmful to the former employer but because of the competing interests of
allowing an employee some latitude in switching jobs and at the same time
preserving some degree of loyalty owed to the employer, the mere entering into
competition is not enough. It is something more than preparation which is so
harmful as to substantially hinder the employer in the continuation of his
business. (emphasis added). Cudahy Company v. American Laboratories, Inc.,
313 F.Supp. 1339, 1346 (D.Neb.1970).
Moreover, while an employee is under an obligation to be candid with his employer in preparing to
establish a competing enterprise, C-E-I-R, Inc. v. Computer Corp., 229 Md. at 367, 183 A.2d 374;
see also Community Counselling Service, Inc. v. Reilly, 317 F.2d 239, 244 (4th Cir. 1963), he is not
bound to reveal the precise nature of his plans to the employer unless he has acted inimically to the
employer's interest beyond the mere failure to disclose. Cudahy Company v. American Laboratories,
Inc., 313 F.Supp. at 1346; Bancroft-Whitney Company v. Glen, 64 Cal.2d 327, 49 Cal.Rptr. at 840,
411 P.2d at 936.
The right to make arrangements to compete is by no means absolute and the exercise of the
privilege may, in appropriate circumstances, rise to the level of a breach of an employee's fiduciary
duty of loyalty. Thus, the privilege has not been applied to immunize employees from liability
where the employee has committed some fraudulent, unfair or wrongful act in the course of
preparing to compete in the future. Robb v. Green, (1895) 2 Q.B. 1, 15, aff'd, (1895) 2 Q.B. 315.
Examples of misconduct which will defeat the privilege are: misappropriation of trade secrets, Space
Aero v. Darling, 238 Md. 93, 117, 208 A.2d 74, cert. denied, 382 U.S. 843, 86 S.Ct. 77, 15 L.Ed.2d
83 (1965); misuse of confidential information, C-E-I-R, Inc. v. Computer Corp., 229 Md. at 368, 183
A.2d 374; solicitation of employer's customers prior to cessation of employment, Ritterpusch v.
Lithographic *41 Plate, **570 208 Md. at 602, 119 A.2d 392; conspiracy to bring about mass
resignation of employer's key employees, Duane Jones Co. v. Burke, 306 N.Y. 172, 117 N.E.2d 237,
245 (1954); usurpation of employer's business opportunity, Raines v. Toney, 228 Ark. 1170, 313
S.W.2d 802, 809-810 (1958). See generally Comment, 22 U.Chi.L.Rev. 278, 282-83 (1954).
Within these broad principles, the ultimate determination of whether an employee has
breached his fiduciary duties to his employer by preparing to engage in a competing enterprise must
107
be grounded upon a thoroughgoing examination of the facts and circumstances of the particular case.
As the California Supreme Court has observed:
"No ironclad rules as to the type of conduct which is permissible can be stated,
since the spectrum of activities in this regard is as broad as the ingenuity of man
itself." Bancroft-Whitney Company v. Glen, 64 Cal.2d at 346, 49 Cal.Rptr. at
839, 411 P.2d at 935.
Accord, Operations Research v. Davidson, 241 Md. at 575, 217 A.2d 375.
Turning now to the facts in the case at hand, we consider the evidence produced at trial in a
light most favorable to the prevailing party; and if substantial evidence is present to support the trial
court's determination, it is not clearly erroneous and hence will not be disturbed on appeal.
Maryland Rule 886. Ross v. Hoffman, 280 Md. 172, 186, 372 A.2d 582 (1977); Ryan v. Thurston,
276 Md. 390, 392, 347 A.2d 834 (1975); Delmarva Drilling Co. v. Tuckahoe, 268 Md. 417, 424, 302
A.2d 37 (1973).
As we noted earlier, appellees Metzner and Sellers met with appellant's president, Robert
Kerstein, in mid-November 1973, after having recently completed a comprehensive study of
shredding operations around the country on behalf of Maryland Metals. At the November meeting
appellees demanded and were refused an equity participation in Maryland Metals because the
company's capital stock was completely tied up in Harry Kerstein's testamentary trust. The
chancellor found from the evidence that upon receiving this initial rebuff, appellees then notified
Robert that if Maryland Metals was not willing to take a part in a proposed *42 shredding operation,
appellees would go into business for themselves without appellant.[FN4] Shortly thereafter
appellees set in motion a scheme designed to permit them to establish an independent shredding
business in the event appellant decided not to participate in the venture. It is this secretive,
preparatory effort which appellant claims amounted to a breach of appellees' fiduciary duty to the
corporation.
* * *
Appellees' initial act was the formation of a Delaware corporation named "Conservit, Inc."
on December 11, 1973, which qualified to do business in Maryland on January 14, 1974. It is
undisputed, however, that appellees never utilized the Delaware corporation to conduct any business
in Maryland or elsewhere. After having made contact with Henry Schloss, a prospective investor
from Baltimore, and after having consulted with representatives of the Maryland Economic
Development Commission late in 1973, Metzner filed a preliminary application with the Maryland
National Bank on January 2, 1974, for a loan to purchase a shredding machine. The loan request
was approved on March 14, 1974, in the amount of $1,300,000, but was not actually closed until
August 1974, two months after Metzner had left Maryland Metals.
As early as December 1973, Sellers contacted representatives of the Potomac Edison
Company concerning the power requirements for the proposed shredder. These **571 negotiations
continued through the remainder of appellees' employment. On February 7, 1974, appellees
succeeded in securing an option on the same tract of land appellant had considered acquiring in
1970. This option was exercised on June 27, 1974, at a purchase price of approximately $180,000.
108
*43 On February 20, 1974, Henry Schloss, on behalf of appellees, and on his own behalf,
executed an agreement with Hammermills, Inc. of Iowa for the purchase of a car shredder at a price
of $1,200,000. Throughout late winter and spring of 1974, appellees contacted and consulted with
various municipal agencies, utility companies, construction contractors, manufacturers and engineers
concerning the improvement of the contemplated shredder site and the purchase of equipment
necessary to operate and maintain the proposed shredder business.
On May 22, 1974, appellant discharged Sellers, while Metzner submitted his resignation on
May 28, 1974, continuing at appellant's request until June 15, 1974, when he ceased all work for
Maryland Metals. A Maryland corporation was formed in July 1974 to carry on the business of the
nascent enterprise. In that same month the United States Farmers Home Administration agreed to
guarantee the loan from Maryland National Bank, which was finally consummated in August 1974.
Appellees' shredder operation opened for business in March 1975, some nine months after Metzner
had departed from appellant's employ. It is conceded that at no time during the course of their
employment did appellees ever inform appellant of the details of their preparations other than to
notify Robert of their intention to compete if Maryland Metals was not interested in cooperating in
the proposed shredder operation. In fact there is evidence that appellants actively concealed their
preparations from appellant.
In sum, from the date of Harry Kerstein's death in June 1973 to the termination of their
employment in mid-1974, appellees' various activities were manifestly preparatory in nature. Since,
as we have noted earlier, employees are privileged to make arrangements to compete even while
they remain on their employer's payroll, it was therefore incumbent upon appellant to demonstrate
that appellees had been guilty of unfair, fraudulent or wrongful conduct beyond the mere failure to
disclose, which impacted on the economic interest of their former principal in some detrimental
fashion.
*44 We are unable to identify any conduct of appellees from June 1973 to June 1974 that was
unfair, wrongful or inimical to appellant's interest. Indicative of Metzner's allegiance to the
corporation was the undisputed evidence that even in the final months and weeks of his employment,
he had negotiated for the sole benefit of his employer a number of valuable contracts yielding profits
totalling many thousands of dollars; indeed, Metzner actually consummated at least one of those
agreements after submitting his resignation in late May. Likewise, Sellers devoted to his employer
approximately 12 hours a day, six days a week during the entire period of his employment, and
continued to do so until the very day of his departure. Small wonder, then, that appellant's president
admittedly could find no fault with the quality of appellees' services up to the time of their departure.
* * *
The chancellor also found as a fact that appellees never misappropriated any trade secrets or
other confidential information belonging to appellant. Whatever information appellees acquired
regarding the operation and economics of automobile shredders as a result of their inspection tours
of shredder sites and other research, was shown by substantial evidence to have been generally
available to the public through trade and government publications. **573 This Court has long
subscribed to the view that an employee enjoys a right, in competing against his former employer, to
109
utilize general experience, knowledge, memory and skill as opposed to specialized, unique or
confidential information gained as a consequence of his employment. Operations Research v.
Davidson, 241 Md. at 567-69, 217 A.2d 375; see generally 2 R. Callmann, Unfair Competition,
Trademarks and Monopolies s 54.2(a) (3d ed. 1968).
Finally, we cannot say that appellees were guilty of usurping a business opportunity of
appellant either in purchasing the option on the Hetzler Industrial Park property or in purchasing an
automobile shredder from Hammermills, Inc. As to the latter, Maryland Metals was perfectly free to
purchase an identical model either before or after appellees consummated the purchase, as appellees
had urged, and was therefore not deprived of any opportunity to obtain a shredder. With respect to
the option property, it need only be said that appellant deliberately let its previous option on the
same site expire some four years before appellees acquired their interest without making any attempt
to preserve a right *47 to the location. In light of appellees' continual exhortations to enter the
shredding business, appellant's procrastination and intransigence amounted to no less than an
abandonment of whatever corporate opportunity might have existed in regard to the option property.
See Diedrick v. Helm, 217 Minn. 483, 14 N.W.2d 913, 920, 153 A.L.R. 649 (1944); Note, 74
Harv.L.Rev. 765, 774-75 (1961).
Reduced to its essence, then, appellant's claim is that Metzner and Sellers violated their
fiduciary duties by concealing the details of their preparatory activities aimed at setting up a
competitive business in the future. Despite appellant's strenuous protestations, the conduct
complained of is precisely what the law permits. In support of its argument, appellant points to a
statement in C-E-I-R, Inc. v. Computer Corp., 229 Md. at 367, 183 A.2d at 380, where we indicated
in dicta that "an agent is under a duty to disclose to his employer any information which the
employer would be likely to want to know." Since appellant states predictably that it would have
certainly wanted to be apprised of the specifics of appellees' preliminary arrangements, it claims that
appellees were obliged to divulge this information.
* * *
In light of his factual findings, the chancellor, in our opinion, was entirely correct in
dismissing appellant's amended bill of complaint. We hold that appellees' conduct here falls within
the mere preparation privilege accorded employees contemplating termination of employment.
Looking beyond the mere failure to disclose the details of their preparations, we have been unable to
find in the record any evidence of such unfair, fraudulent or wrongful conduct on the part of
appellees as would entitle appellant to relief in the form of an injunction, damages or an accounting
for profits. Both Metzner and Sellers served appellant diligently for twenty-three and four years,
respectively, comporting themselves with the **574 utmost good faith and fidelity. Their
foresighted suggestions that appellant expand into the shredder business were intended to benefit the
company, not harm it. Indeed, appellees offered Maryland Metals the chance to participate in the
proposed venture up to the very time of their departure. Had appellant heeded its employees'
suggestions or had it previously exacted from them a covenant not to compete, it might have avoided
its present dilemma. Unfortunately for appellant, it pursued neither of these options and cannot now
be heard to complain.
* * *
110
BBF, Inc. v. Germanium Power Devices Corp.
13 Mass.App.Ct. 166, 430 N.E.2d 1221 (1982)
Appeals Court of Massachusetts, Middlesex.
BBF, INC.
v.
GERMANIUM POWER DEVICES CORPORATION et al.[FN1]
Argued Dec. 17, 1981.
Decided Feb. 5, 1982.
*167 CUTTER, Justice.
BBF Group, Inc.[FN2] (BBF), in December, 1972, acquired by merger all the assets of
Silicon Transistor Corporation (Silicon) which was engaged in the manufacture and sale of silicon
and germanium transistors.[FN3] Since the merger, Silicon has continued this operation as a
division of *168 BBF. Francis B. Driscoll, a defendant, was general manager of the operation from
the date of BBF's acquisition of the Silicon division until his resignation in 1973. The defendant
John Q. Adams, Jr., during the same period was the division's marketing manager. Mr. Oliver O.
Ward, an attorney, also a defendant, had known the other individual defendants for some time, but
had no connection with BBF or with Silicon.
* * *
Solitron Corporation (Solitron), a competitor of BBF, also made silicon and germanium
transistors. In 1973, its then president, Ben Friedman, told James France of BBF that Solitron was
interested in selling its germanium operation, a matter not then of public knowledge. In March,
1973, Friedman met with France, Driscoll, Adams, and Boruch B. Frusztajer, chief executive officer
of BBF, to discuss the sale for $350,000 of Solitron's germanium operation, including equipment,
piece parts, inventory, and customer lists. The BBF representatives decided to investigate the
operation including **1223 an on- site inspection of Solitron's plant at Riviera Beach, Florida.
Driscoll, chosen to investigate,[FN4] recommended in his first report the purchase of the Solitron
germanium operation. In his second report, he recommended the purchase only if there should be
further negotiations.[FN5]
* * *
111
A meeting of the BBF representatives on May 22 was attended by France, Frusztajer (who
had the power to make the final decision), Adams, and Driscoll. Frusztajer decided that, although
"the acquisition of Solitron's assets would be beneficial, ... he did not think Solitron could sell its
germanium operations to anyone other than ... (BBF) and *169 (that) if BBF ... bided its time
Solitron would come back with a more attractive offer."
In July, 1973, Driscoll spoke to Mr. Ward about the possibility that they form their own
germanium business. Late in September or in October, 1973, Mr. Ward spoke to Trevison (see note
5) at Solitron about buying Solitron's germanium assets. On October 6, November 6, and November
15, Driscoll alone, or with Adams or Mr. Ward, visited the Solitron plant. Neither Adams nor
Driscoll disclosed to BBF either these visits or that they were interested in acquiring any part of
Solitron's germanium assets for themselves.
Trevison of Solitron called France of BBF on October 26, 1973, to tell him that "any part of
... (Solitron's) germanium operations was now for sale." France directed Driscoll to investigate the
offer. Driscoll did not follow through on France's request or divulge the interest he and his
associates had in acquiring Solitron's assets for themselves. On November 7, 1973, France learned
by a telephone call to Solitron that some BBF employees were visiting the Florida plant "on their
own." France then met with Driscoll and Mr. Ward on November 13, 1973, and discussed Driscoll's
resignation from BBF. France did not want Driscoll to return to BBF, but his resignation was made
effective on November 21, 1973, to enable Driscoll to have some vacation that was due to him.
Germanium Power Devices Corporation (Germanium) was incorporated by Mr. Ward in
Delaware on November 1, 1973, and was qualified to do business in Massachusetts. Mr. Ward
became its president and a director at once upon its incorporation. In its behalf, Driscoll and Mr.
Ward purchased for $200,000 from Solitron a part of its germanium assets including certain
equipment, piece parts, and inventory. They bought no customer lists. By then Solitron had ceased
to conduct germanium operations. By the time of the purchase on November 15, Driscoll had ceased
to work for BBF but was still carried as a BBF employee until November 21, because of the unused
vacation time.
*170 Driscoll started work with Germanium on November 19, 1973, as its production and plant
manager. He acquired eleven percent of its stock. Adams resigned from BBF on November 13 and
began work as Germanium's vice-president in charge of marketing. While Driscoll was still an
employee of BBF in October, 1973, he approached William J. Dawson who was then BBF's
maintenance manager for its germanium operations. He put Dawson in touch with Mr. Ward and on
November 6, 1973, Dawson went with Driscoll to Solitron's Florida plant. Dawson resigned from
BBF on November 13, 1973, and went to work for Germanium on the same day. Driscoll also
approached Peter J. Ulaskiewicz about joining the new venture. Ulaskiewicz was BBF's "manager
of the front end of the germanium production line," charged with adjusting the ovens to suit
particular germanium material and **1224 customer specification. Ulaskiewicz resigned from BBF
and went to work for Germanium on November 12, 1973.
On November 3, 1973, BBF had twenty-six production employees and about twenty- five
more in various related operations. By January 18, 1974, eleven of these BBF employees had
become employees of Germanium.[FN6]
112
* * *
On January 14, 1974, this complaint was filed by BBF (in its then corporate form, see note 2,
supra ) seeking relief against Germanium, Driscoll, Adams, and Mr. Ward based upon the alleged
improper use by these four defendants of a corporate opportunity belonging to BBF in their
acquisition of assets of Solitron and damages for injuries alleged to have been caused by the breach
of the duty of loyalty owed by Driscoll and Adams to BBF and by their inducing various employees
of BBF to go to work for Germanium.
* * *
1. The trial judge reached the following conclusion concerning the defendants' appropriation
of a corporate opportunity owned by BBF. Driscoll and Adams owed a duty of loyalty to BBF at all
times in 1973 relevant to this action. They acted unfairly toward BBF in making use of information,
acquired by them in confidence, concerning the opportunity to acquire Solitron's assets. Driscoll, a
BBF employee who knew that BBF remained interested in acquiring Solitron's germanium assets,
discussed with Mr. Ward in July or August, 1973, the possibility of forming a new germanium
company. As a consequence, Mr. Ward made various visits to the Solitron plant. Driscoll went with
Dawson to the Solitron plant, participated with Mr. Ward in negotiating the purchase of part of
Solitron's assets, and helped Adams and Mr. Ward to select a site for Germanium's new plant. He
did not comply with France's order to investigate Solitron's revised offer of October 26, 1973. He
also approached Dawson and Ulaskiewicz about working for the new corporation. Adams knew that
Germanium's acquisition of Solitron's assets would be harmful to BBF. He violated his duty of
loyalty by using confidential information and helping to select the new plant site. Mr. Ward knew or
should have known of Driscoll's and Adam's duty of loyalty to BBF. Nevertheless, he participated
with them in acquiring for Germanium some Solitron assets.
*172 On these subsidiary facts, the judge was justified in concluding that the three individual
defendants and Germanium had appropriated a corporate opportunity of BBF. Accordingly, she
reasonably decided that the defendants were jointly and severally subject to liability for injuries to
BBF proximately caused by their actions. See American Circular Loom Co. v. Wilson, 198 Mass.
182, 206, 84 N.E. 133 (1908); Durfee v. Durfee & Canning, Inc., 323 Mass. 187, 198-199, 80
N.E.2d 522 (1948); Weismann v. Snyder, 338 Mass. 502, 504-505, 156 N.E.2d 21 (1959). See also
Woolley's Laundry, Inc. v. Silva, 304 Mass. 383, 386-387, 23 N.E.2d 899 (1939); Production
Machine Co. v. Howe, 327 Mass. 372, 377-379, 99 N.E.2d 32 **1225 (1951); Jet Spray Cooler, Inc.
v. Crampton, 361 Mass. 835, 839-841, 282 N.E.2d 921 (1972). Compare Black v. Parker Mfg. Co.,
329 Mass. 105, 111-114, 106 N.E.2d 544 (1952).
The defendants contend that the Solitron offer ceased to be a confidential corporate
opportunity in the autumn of 1973 when it became public knowledge that Solitron's assets were for
sale. Even before that time, however, Driscoll and Adams for their own advantage had begun to use
information which came to them in confidence as trusted BBF employees. Indeed, Driscoll, at the
expense of BBF, had investigated the opportunity to acquire Solitron's assets and had formed the
opinion that BBF in its own interest should acquire these assets or some of them. When the
availability of Solitron's assets became public, he and his associates were ready to move. The
113
defendants also place some emphasis on the fact that the assets acquired by Germanium from
Solitron represented only part of the assets offered to BBF by Solitron and were "readily available
from industrial suppliers." Whatever bearing these circumstances may have had on issues of
causation and of the extent of damages, the judge was not required to conclude that they, by
themselves, necessarily operated to relieve the defendants of liability for their misuse of Driscoll's
and Adams's confidential knowledge of BBF's corporate opportunity.
* * *
Cullen v. BMW
691 F.2d 1097 (2nd Cir. 1982)
United States Court of Appeals,
Second Circuit.
Thomas W. CULLEN, Jr., Plaintiff-Appellee,
v.
BMW OF NORTH AMERICA, INC., Defendant-Appellant.
No. 1141, Docket 82-7118.
Argued May 27, 1982.
Decided Oct. 13, 1982.
LEONARD P. MOORE, Circuit Judge:
Defendant BMW of North America, Inc. ("BMW/NA") appeals from a judgment of the
United States District Court for the Eastern District of New York, Honorable Edward R. Neaher,
Judge, in favor of Thomas W. Cullen, Jr., in the amount of $18,000 plus interest, and from a
judgment of that same court, denying defendant's motion to amend the judgment. BMW/NA is the
exclusive importer and distributor in the United States of passenger cars, parts, and products
manufactured by Bayerische Motoren Werke, AG. On appeal, BMW/NA claims that the district
court erred in finding that it had breached a duty under New York law actively to police the methods
of operation of its franchisee, Bavarian Auto Sales, Inc. ("Bavarian"), and had negligently permitted
Bavarian to continue as a BMW dealer. We agree with BMW/NA that it did not owe a duty to
supervise the operation of Bavarian and to terminate the franchise because of its allegedly precarious
financial condition. Accordingly, we reverse the judgments of the district court.
FACTS
On January 24, 1979, Thomas W. Cullen, Jr., and his wife drove past the showroom of
Bavarian and decided to shop for a car. Cullen selected a new 1978 BMW, Model 530i, at a price
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of $18,245, and placed a deposit of $245 on the vehicle. Although Cullen had originally been told
that the car would not be available for seven to ten days, a Bavarian salesman called Cullen five days
later, advising that the car had arrived and requesting a check for the balance of the amount of
$18,000, which was cashed by Bavarian. However, Cullen never received the automobile or the
return of his money. In fact, Hans Eichler, Bavarian's president and owner of a 60 percent interest
in the franchise, had stolen and absconded with Cullen's money. At no time relevant to the
transaction, however, did Cullen have any contact, in person, by telephone, or by mail, with any
representative of BMW/NA.
Cullen subsequently commenced a civil suit against Bavarian in New York State Supreme
Court, Nassau County. The suit was stayed after Eichler filed a petition in bankruptcy. Cullen also
filed criminal complaints with the Queens County District Attorney and the Attorney General of the
State of New York, but no indictments were issued. [FN1] In addition, Cullen brought this action
based on diversity grounds against BMW/NA.
FN1. Eichler and Bavarian were indicted, however, for three counts of grand larceny in the
second degree based on Eichler's conduct toward customers other than Cullen. On February
5, 1981, Eichler pleaded guilty to attempted grand larceny in the second degree.
Bavarian was operating as a franchised BMW dealer, with Eichler as its principal, when
BMW/NA assumed control over the distribution of BMW automobiles in March, 1975. It
continued to operate as a franchised BMW dealer until February 16, 1979 when the dealership
ended. [FN2]
FN2. Bavarian and BMW/NA entered into three written franchise agreements from June,
1976 to February 16, 1979: (1) from June 1 to December 31, 1976; (2) from August 12 to
December 31, 1977; and (3) from January 1 to December 31, 1978. Although no written
agreement was in effect from January 1 to August 12, 1977 or from January 1 to February
16, 1979, Bavarian continued to operate as a duly franchised BMW dealer during these
periods.
Pursuant to a standard operating agreement with BMW/NA, Bavarian was responsible *1099
for maintaining a prearranged line of credit with a financial institution to be used exclusively for the
purchase of BMW vehicles. Bavarian, however, permitted its line of credit to lapse. Prior to
August, 1976, Bavarian had a line of credit with the State Bank of Long Island. On August 18,
1976, however, the bank informed BMW/NA that it had terminated its relationship with Bavarian
because Eichler had advised the bank that he had arranged to handle Bavarian's credit requirements
from personal resources. BMW/NA experienced difficulty, however, in receiving payment for cars
and parts and placed Bavarian on a C.O.D. certified check basis, rather than open account status, in
the latter part of 1976.
In June, 1977, BMW/NA received a letter from the Israel Discount Bank stating that
effective June 16, 1977, Bavarian had established a line of credit for $200,000. From the latter part
of 1976 through August 22, 1977, the Israel Discount Bank had paid for approximately eighty-seven
vehicles purchased by Bavarian even though no formal letter of credit was in effect for most of this
period. The bank also paid BMW/NA for another twenty-six vehicles between September 30, 1977
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and December 27, 1977. The Israel Discount Bank continued as Bavarian's credit facility through
the summer of 1978. The bank paid BMW/NA for fifty-three automobiles between January 1, 1978
and August 18, 1978. In the fall of 1978, however, the bank concluded that the dealership was
experiencing financial difficulty and decided not to extend further credit. The bank's decision was in
part based upon certain tax levies and other legal actions filed against the Bavarian franchise.
BMW/NA was unaware, however, of any tax levies filed against Bavarian or the reasons behind the
Israel Discount Bank's decision to terminate Bavarian's line of credit.
At approximately the time at which Bavarian lost its line of credit, BMW/NA began
receiving an increased number of customer complaints concerning the Bavarian franchise. These
complaints ranged from the issuance of checks on accounts with insufficient funds to alleged delays
in return of customer deposits. Although an investigation by BMW/NA revealed that all complaints
had been satisfactorily resolved and all checks were covered on re- presentation. BMW/NA
remained disturbed by Bavarian's continued failure to satisfy certain requirements of its contract
with BMW/NA, such as submitting monthly financial statements, [FN3] and the increased number of
checks which Bavarian had issued on accounts with insufficient funds. [FN4]
FN3. Bavarian furnished only two monthly financial statements during the several years it
operated.
FN4. During 1978, checks totalling $40,000 were issued by Bavarian to BMW/NA upon
accounts with insufficient funds.
Eichler attempted to reassure BMW/NA of Bavarian's financial viability, indicating that he
was actively negotiating with a variety of financial institutions to obtain a line of credit. By midSeptember, however, Bavarian still had not been able to secure credit funds, and BMW/NA met with
Eichler to discuss the future of the franchise. After reviewing the dealership's file, BMW/NA
concluded that it would be difficult to terminate the Bavarian franchise at that time, without adequate
written documentation certifying the dealer's deficiencies and without providing Bavarian an
opportunity to correct those deficiencies. Accordingly, BMW/NA granted Bavarian sixty days to
cure all deficiencies, and BMW/NA personnel closely monitored the franchise during this period.
BMW/NA continued to operate as a BMW dealer and service facility and maintained the minimum
number of vehicles required by its contract with BMW/NA.
At Bavarian's request, the original sixty-day period was extended until November 14, 1978.
On the following day, Eichler informed BMW/NA that he had verbal approval from Citibank for
credit and that he was awaiting confirmation. Although the Citibank commitment did not
materialize, the Lloyd Capital Corporation ("Lloyd") advised *1100 BMW/NA by letter dated
December 7, 1978, that Bavarian had established a line of credit for $400,000 exclusively for BMW
automobiles. Shortly thereafter, BMW/NA allocated seven vehicles to the Bavarian dealership and
drew funds pursuant to the Lloyd letter of credit. The cash drafts were refused, however, and Lloyd
informed BMW/NA that the letter of credit had been withdrawn. [FN5] The seven vehicles were
then removed from Bavarian and were reallocated to a nearby BMW dealer. Moreover, Friedrich
Hanau, vice-president of BMW/NA, immediately wrote to Eichler, setting forth the company's
position that unless Bavarian corrected its continuing deficiencies within an additional sixty days,
BMW/NA would serve a notice of intent to terminate the franchise. Eichler responded on
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December 28, 1978, indicating that he was accelerating his efforts to obtain a line of credit, and
expressing his desire to continue as a BMW dealer. In early January, 1979, however, Eichler
advised BMW/NA that he desired to sell his franchise to another automobile dealer. This
prospective purchaser submitted an application which BMW/NA, in early February, rejected for
failing to satisfy BMW/NA's established standards for a new dealership.
FN5. Bavarian had never signed a formal agreement with Lloyd and had never paid Lloyd
the $1,000 required by law to be submitted prior to the execution of the agreement.
On February 13, 1979, BMW/NA officials again met with Eichler to discuss the future of the
franchise. At this meeting, BMW/NA officials learned that Eichler had accepted deposits from
customers totalling approximately $100,000 and that he had used this money for his own purposes.
Three days later, BMW/NA accepted Eichler's voluntary letter of resignation.
DISCUSSION
Cullen alleged at trial two theories of liability: (1) that Bavarian acted as BMW/NA's agent
pursuant to principles of either actual agency or agency by estoppel; and (2) that BMW/NA
negligently permitted Bavarian to continue as a BMW dealer because it had knowledge of Bavarian's
precarious financial condition. [FN6] The district court rejected the first theory of liability, finding
that Cullen failed to prove the essential elements supporting a theory of agency by estoppel. [FN7]
The court held, however, that BMW/NA was liable for damages under the negligence theory, finding
that Cullen had met his "burden of proving facts which give rise to a legal duty on the part of
BMW/NA, for the protection of its franchisee's customers, to reasonably police the authorized use of
the BMW name and supervise the operation of its franchise." Cullen v. BMW of North America,
Inc., No. 79 C 970, slip op. at 12 (E.D.N.Y. Oct. 28, 1981). In imposing a duty on BMW/NA, the
district court found that BMW/NA "was apprised of Bavarian's propensity for unscrupulous business
transactions," Cullen v. BMW of North America, Inc., 531 *1101 F.Supp. 555, at 565-66
(E.D.N.Y.1982), and that as a result, "BMW/NA should have reasonably foreseen that Bavarian
might have intentionally caused some financial harm to some BMW customer as a result of its
original negligence ...." Id. The court thus concluded that where a franchisor, such as BMW/NA,
has a "reasonable opportunity to reduce the risk of foreseeable injury" caused by its franchisee, id.,
but fails to terminate its franchisee or take other appropriate action, the franchisor is negligent and is
liable for damages suffered by the ultimate consumer.
FN6. Cullen's amended complaint alleged four separate theories of liability: (1) that
Bavarian was acting as agent for BMW/NA pursuant to principles of either actual agency or
agency by estoppel; (2) that BMW/NA was negligent in permitting Bavarian to continue as
a dealer because it had knowledge of Bavarian's allegedly precarious financial condition; (3)
that BMW/NA entered into a conspiracy with Eichler, and in fact did, defraud customers into
doing business with Eichler; and (4) that BMW/NA's conduct constituted a prima facie tort.
At the conclusion of discovery, BMW/NA moved for summary judgment dismissing each
of Cullen's claims for relief. The district court concluded that an actual agency relationship
did not exist between BMW/NA and Bavarian. It also found no evidence to support
Cullen's causes of action for conspiracy to commit fraud and prima facie tort, and dismissed
117
those claims as well. Accordingly, only the issues of negligence and agency by estoppel
remained to be tried.
FN7. The court specifically pointed to Cullen's failure "to prove his reliance on Bavarian's
authority to act for BMW/NA." Cullen v. BMW of North America, Inc., No. 79 C 970, slip
op. at 8 (E.D.N.Y. Oct. 28, 1981) (emphasis in original). Cullen's cross-appeal from the
dismissal of this claim for relief was withdrawn pursuant to a stipulation dated March 11,
1982 and filed on March 26, 1982. Accordingly, we need not address this issue on appeal.
We conclude, however, that the district court improperly determined that Cullen's injury was
reasonably foreseeable, and thus erred in finding BMW/NA liable for negligent failure to police the
methods of operation of its independent franchisee and to terminate the franchise because of
Bavarian's precarious financial condition. "The law does not undertake to hold a person who is
chargeable with a breach of duty toward another, with all the possible consequences of his wrongful
act." Lowery v. Western Union Telegraph Co., 60 N.Y. 198, 201 (1875). It is thus a wellestablished principle that foreseeability of injury is an indispensable requisite of negligence, and that
negligence exists only when there is a reasonable likelihood of danger as the result of the act
complained of. Ward v. State of New York, 81 Misc.2d 583, 366 N.Y.S.2d 800 (N.Y.Ct.Cl.1975).
Accordingly, an intervening act, tortious or criminal, will ordinarily insulate a negligent defendant
from liability when the subsequent act could not have been reasonably anticipated by the defendant.
Tirado v. Lubarsky, 49 Misc.2d 543, 268 N.Y.S.2d 54 (N.Y.Civ.Ct.), aff'd, 52 Misc.2d 527, 276
N.Y.S.2d 128 (N.Y.App.Div.1966).
Applying these principles to the instant action, we decline to hold BMW/NA negligent and
liable for damages since it could not reasonably have anticipated the crimes committed by Bavarian's
principal, Eichler. Although BMW/NA may have been aware of Bavarian's shaky financial
condition, that knowledge alone gave BMW/NA no cause reasonably to anticipate that Eichler
would either engage in any criminal activity or that he would abscond with customer funds. In fact,
no amount of supervision by BMW/NA would have enabled it to foresee Eichler's thievery.
Moreover, even though BMW/NA had notice that Bavarian had been the subject of customer
complaints, most complaints were resolved, and the record does not demonstrate that there was any
dishonesty or criminal intent associated with these incidents. Furthermore, we note that the district
court's finding that Bavarian was an independently owned and operated dealership is sufficient to
eliminate any question of control by BMW/NA. BMW/NA had no financial interest in Bavarian, did
not participate in the hiring or firing of its officers or employees, or dictate its sales practices.
Accordingly, we conclude that BMW/NA, even though it had knowledge of Bavarian's precarious
financial condition, was not liable to Cullen for his damages under a negligence theory since it could
not have reasonably foreseen Eichler's criminal activity.
Reversed.
* * *
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Davila v. Yellow Cab Co.
776 N.E.2d 720
Appellate Court of Illinois,
First District, Second Division.
Herman DAVILA, Plaintiff-Appellant,
v.
YELLOW CAB COMPANY, Defendant-Appellee.
Aug. 20, 2002.
Justice McBRIDE delivered the opinion of the court:
Plaintiff Herman Davila appeals an order of the circuit court of Cook County granting
summary judgment in favor of defendant Yellow Cab Company.
In a first amended complaint, Davila alleged he was struck and injured by a taxicab owned by
Yellow Cab and negligently operated by defendant Thomas Williams on October 31, 1996, in the
vicinity of the intersection of LaSalle and Lake Streets in Chicago. Davila alleged that he was a
State of Illinois police officer standing on Lake Street due to traffic congestion when he was struck
by Williams' cab and dragged for several feet. Davila also alleged the incident caused him severe
and permanent bodily injuries, pain and suffering, medical expenses, and loss of his usual
occupation. Davila complained that Yellow Cab was responsible for his damages due to a principal/
agent or master/servant relationship with Williams. In a separate count, which was dismissed and is
not subject to this appeal, Davila alleged that Yellow Cab had negligently entrusted Williams with
the taxicab.
Yellow Cab answered and moved for summary judgment, contending that its written contract
with Williams established he was an independent contractor and that Williams' conviction for
battery, an intentional crime, in connection with the incident at Lake and LaSalle Streets established
Williams was not acting within the scope of any agency or employment relationship. Yellow Cab
concluded it was therefore not responsible for Williams' actions.
The trial court granted Yellow Cab's motion for summary judgment, finding that, as a matter
of law, Williams was not an agent or employee of Yellow Cab, because Yellow Cab was leasing
licensed cabs and there was no indication that it had a right to control Williams' operation of the cab.
The trial court declined to follow Yellow Cab Co. v. Industrial Comm'n, 124 Ill.App.3d 644, 80
Ill.Dec. 96, 464 N.E.2d 1079 (1984), or Yellow Cab Co. v. Industrial Comm'n, 238 Ill.App.3d 650,
179 Ill.Dec. 691, 606 N.E.2d 523 (1992), and indicated that these cases are limited to questions of
entitlement to workers' compensation benefits. In both cases, the courts rejected Yellow Cab's
independent contractor argument and found the existence of an employer-employee relationship
under a written agreement and facts that are substantially similar to those in the case at bar.
In this appeal, Davila argues (1) a principal/agent relationship existed or was sufficiently
119
disputed to preclude summary judgment in Yellow Cab's favor; and (2) Yellow Cab can be held
liable for tortious conduct in furtherance of its business, regardless of whether the conduct was
intentional or criminal.
Summary judgment permits the trial court to determine whether any genuine issue of material
fact exists, but it does not permit the trial court to try such an issue. * * * Summary judgment is
encouraged in the interest of the prompt disposition of lawsuits, but it is a drastic measure which
should be granted only when the pleadings, depositions, affidavits, and admissions on file, when
reviewed in the light most favorable to the nonmovant, show that there is no genuine issue as to any
material fact and that the moving party's right to judgment is clear and free from doubt. Pyne, 129
Ill.2d at 358, 135 Ill.Dec. 557, 543 N.E.2d 1304. " 'Summary judgment must be awarded with
caution to avoid preempting litigant's right to trial by jury or the right to fully present the factual
basis of a case where a material dispute may exist * * *.' [Citation.]" Schrager v. North Community
Bank, 328 Ill.App.3d 696, 703, 262 Ill.Dec. 916, 767 N.E.2d 376 (2002). " 'A triable issue of fact
exists where there is a dispute as to a material fact or where, although the facts are not in dispute,
reasonable minds might differ in drawing inferences from those facts.' [Citation.]" Schrager, 328
Ill.App.3d at 703, 262 Ill.Dec. 916, 767 N.E.2d 376.
In cases involving summary judgment motions, we conduct a de novo review of the evidence
in the record. Schrager, 328 Ill.App.3d at 702, 262 Ill.Dec. 916, 767 N.E.2d 376. " '[W]e are free to
consider any pleadings, depositions, admissions, and affidavits on file at the time of the hearing
regardless of whether facts contained therein were presented to the trial court in response to the
motion for summary judgment.' [Citation.]" Schrager, 328 Ill.App.3d at 703, 262 Ill.Dec. 916, 767
N.E.2d 376. Reversal " 'is warranted where, on review, a material issue of fact or an inaccurate
interpretation of the law exists.' [Citation.]" Schrager, 328 Ill.App.3d at 703, 262 Ill.Dec. 916, 767
N.E.2d 376.
We disagree with the trial court's conclusion that Yellow Cab Co. v. Industrial Comm'n, 124
Ill.App.3d 644, 80 Ill.Dec. 96, 464 N.E.2d 1079 (1984) (Yellow Cab I), and Yellow Cab Co. v.
Industrial Comm'n, 238 Ill.App.3d 650, 179 Ill.Dec. 691, 606 N.E.2d 523 (1992) (Yellow Cab II),
are limited to questions of entitlement to workers' compensation benefits. The standard used in
determining whether an employer-employee relationship exists in a workers' compensation context
is no different from the standard used in a vicarious liability context. Gunterberg v. B & M
Transportation Co., 27 Ill.App.3d 732, 737-38, 327 N.E.2d 528 (1975) (standard used to determine
employee or independent contractor status is not affected by whether question arises in context of
workers' compensation coverage or respondeat superior); Hamilton v. Family Record Plan, Inc., 71
Ill.App.2d 39, 47-48, 217 N.E.2d 113 (1966) (determination of employee or independent contractor
status is the same in workers' compensation and respondeat superior cases).
In Yellow Cab I, the court indicated that a lease agreement between Yellow Cab and a cab
driver disclaiming an employer-employee relationship was not dispositive of the cab driver's status.
Yellow Cab, 124 Ill.App.3d at 647, 80 Ill.Dec. 96, 464 N.E.2d 1079. See also Tansey v. Robinson,
24 Ill.App.2d 227, 234, 164 N.E.2d 272 (1960) (written contract between grocery store and delivery
man not conclusive of their relationship). The nature of the relationship "depends upon the actual
practice followed by the parties and, as a general rule, becomes a mixed question of law and fact to
be submitted upon proper instructions to a jury." Tansey, 24 Ill.App.2d at 233-34, 164 N.E.2d 272.
120
The question of whether a relationship of employer and employee, principal and agent, or owner and
independent contractor existed depends upon the facts of a given case. Tansey, 24 Ill.App.2d at
234, 164 N.E.2d 272. "Unless those facts clearly appear, the relationship cannot become purely a
question of law." Tansey, 24 Ill.App.2d at 234, 164 N.E.2d 272.
" 'No one factor may determine what [the] relationship is between parties in a given case. It may
be necessary to consider a number of factors with evidentiary value, such as the right to control the
manner in which the work is done, the method of payment, the right to discharge, the skill required
in the work to be done, and who provides the tools, materials, or equipment. Of these factors the
right to control the manner in which the work is done is the most important in determining the
relationship.' " Yellow Cab II, 238 Ill.App.3d at 652, 179 Ill.Dec. 691, 606 N.E.2d 523, quoting
Morgan Cab Co. v. Industrial Comm'n, 60 Ill.2d 92, 97-98, 324 N.E.2d 425 (1975).
Additionally, it is the right of control, not the fact of control, that is the principal factor in
distinguishing a servant from a contractor. * * *
Accordingly, in Yellow Cab I, the court found that a number of factors established that
Yellow Cab had a right to control the manner in which work was done under a 24-hour cab lease.
Yellow Cab, 124 Ill.App.3d at 647, 80 Ill.Dec. 96, 464 N.E.2d 1079. All of the cabs were uniform
in appearance and had the company's name and telephone number on them. Yellow Cab maintained
the right to terminate or refuse to renew the 24-hour lease. The driver was not permitted to sublet
the cab, was instructed to purchase his gas at the company garage, and was required to report
mileage at the end of the lease period. Yellow Cab derived goodwill from the public presence of the
well- maintained cabs. Roadmen filled out observation reports on the condition of the cabs. Yellow
Cab performed routine maintenance and repairs, and if the cab broke down within a six-county area,
Yellow Cab would make the necessary repairs or tow the cab and provide another cab if one were
available.
Based on these facts, the court concluded that despite the lease agreement's employment
relationship disclaimer, the record clearly indicated that Yellow Cab's interest in its cabs did not
cease with their leasing, but extended to their operation (Yellow Cab, 124 Ill.App.3d at 647, 80
Ill.Dec. 96, 464 N.E.2d 1079), and that Yellow Cab was in the business of operating a fleet a cabs
for public use (Yellow Cab, 124 Ill.App.3d at 648, 80 Ill.Dec. 96, 464 N.E.2d 1079). Accordingly,
there was sufficient evidence to conclude the cab driver was an employee of Yellow Cab. Yellow
Cab, 124 Ill.App.3d at 648, 80 Ill.Dec. 96, 464 N.E.2d 1079.
Yellow Cab II, 238 Ill.App.3d 650, 179 Ill.Dec. 691, 606 N.E.2d 523, bears even more
resemblance to the instant case, because it also involved a long-term lease, rather than the series of
24-hour leases in Yellow Cab I. The court stated:
"Unquestionably, several factors which other courts have relied upon in analyzing the control
factor, such as the requirement that gasoline be purchased and repairs done at the employer's
garage, use of radio assignments or control of shifts and assignments, are not present in this case.
However, several of the most important factors which courts have relied upon in determining that
an employer/employee relationship existed between the parties do indeed exist in the present case.
Here, claimant was required to keep the vehicle in running condition, and the employer had the
121
right to inspect the vehicle, sign and meter at a time and place the employer designated. Claimant
was required to keep the employer's name upon the vehicle and could not paint it any color other
than yellow. The employer was entitled to terminate the lease 'with or without cause,' a provision
that suggests an employer/employee relationship. Subletting of the vehicle to any other than an
employer- authorized individual (with a valid public chauffeur's license) was prohibited." Yellow
Cab, 238 Ill.App.3d at 654, 179 Ill.Dec. 691, 606 N.E.2d 523.
In light of these facts, Yellow Cab II concluded that the cab company was not simply leasing
vehicles, but was in the business of providing a fleet of cabs for public use. Yellow Cab, 238
Ill.App.3d at 654-55, 179 Ill.Dec. 691, 606 N.E.2d 523. The court declined to respond to Yellow
Cab's assertion that it did not insist that the cab driver actually operate the vehicle as a taxicab,
because this assertion contradicted the express language of the lease ("Lessee thereby and hereby
leases the Automobile as a taxicab"), and the very reason for some of the lease's requirements.
Yellow Cab, 238 Ill.App.3d at 654-55, 179 Ill.Dec. 691, 606 N.E.2d 523. Accordingly, the court
affirmed the determination of an employer-employee relationship between Yellow Cab and the cab
driver. Yellow Cab, 238 Ill.App.3d at 655, 179 Ill.Dec. 691, 606 N.E.2d 523.
In the instant case, the relationship between Yellow Cab and Williams was described in four
documents. The first was entitled "Yellow Cab Company Driver Information Packet" and was
given to Williams as part of his orientation to the company. During a deposition on January 8,
2001, Jeffrey Feldman, Yellow Cab's president between February 1982 and March 2000, stated that
the orientation consisted of a three-hour "indoctrination addressing operations of a Yellow Cab," and
it was required of all Yellow Cab drivers regardless of whether they had been driving for another
company or not. Feldman estimated that Yellow Cab owned 2,246 of the 5,700 cabs operating in
Chicago in 1996. The second document was entitled "Terms and Conditions," and Feldman referred
to this contract as a "master lease" during his January 8, 2001 deposition. The third and fourth
documents were entitled "Daily Lease with Option to Buy" (a two-year contract) and "Service
Agreement."
According to these documents and Feldman's deposition testimony, Williams' relationship
with Yellow Cab was similar to the driver's relationship with Yellow Cab in Yellow Cab II.
Although Yellow Cab did not require Williams to work any shifts or locations, Yellow Cab provided
the cab, cab medallion, meter, and taxi dome light on the roof of the vehicle, and specified it was
leasing the vehicle to Williams as a "taxicab." The cab was part of uniformly painted fleet of nearly
half the cabs operating in Chicago in 1996, and Williams was prohibited from changing its
appearance in any way. Williams was also to be the sole driver, unless Yellow Cab authorized a
sublettor. Williams was instructed to issue meter-printed or hand-completed receipts bearing Yellow
Cab's name, and to accept Yellow Cab coupons and charges to Yellow Cab's corporate and
individual charge accounts. Williams was asked to use the cab's heater and air conditioner for the
comfort of his passengers, to turn the cab's radio down or off when a passenger entered the cab, and
to clean the interior of the cab often, and he was "encouraged" to use Yellow Cab's car washing
facilities. Williams was required to keep the vehicle and meter in satisfactory repair and running
condition, and to report any accidents to Yellow Cab's insurer.
Furthermore, Yellow Cab's influence over Williams' operation of the cab did not stop with
these requests, instructions and prohibitions. Yellow Cab reserved the right to inspect the vehicle
122
and meter at any time and place Yellow Cab designated. According to Feldman, Yellow Cab placed
a bumper sticker on the back of the cab that read "How Am I Driving" and provided Yellow Cab's
telephone number. Yellow Cab also reserved the right to terminate the lease under a number of
circumstances, including if Williams violated "any term, provision or condition of [the Daily] Lease
or the Service Agreement," or failed to follow "any applicable laws, ordinances and governmental
rules and regulations."
Accordingly, we disagree with the trial court's conclusion that, "There's nothing to indicate
that the cab company in any way had control over the way in which the driver did his business."
We also disagree with the trial court's determination that Yellow Cab was "leasing the cab, and from
there, the cab driver takes it and does whatever he wants with it," and "as to how he goes about his
business, [there isn't] anything that really would even * * * raise a question of fact about whether
he's an agent." Based on even fewer indications of a right to control, Yellow Cab II concluded that
Yellow Cab was not simply in the business of leasing vehicles (Yellow Cab, 238 Ill.App.3d at 654,
179 Ill.Dec. 691, 606 N.E.2d 523) and that an employer- employee relationship existed (Yellow Cab,
238 Ill.App.3d at 655, 179 Ill.Dec. 691, 606 N.E.2d 523).
The trial court emphasized that Williams paid Yellow Cab a flat leasing fee regardless of
what Williams earned while operating the taxicab, and appears to have been referring to the analysis
in Metro East Cab Co. v. Doherty, 302 Ill.App.3d 402, 235 Ill.Dec. 764, 705 N.E.2d 947 (1999),
which concluded that a cab company and driver were lessor and lessee rather than employer and
employee because there was no evidence of "economic interdependence" between them. Metro
East is a Fifth District opinion and therefore not binding authority in the First District. * * * We do
not consider Metro East relevant, particularly when Yellow Cab I and Yellow Cab II, First District
cases, involve the same cab company and substantially similar contracts and facts as the case at bar.
Based on the reasoning in Yellow Cab I and Yellow Cab II and the facts disclosed by the
record, we conclude that material questions of fact exist as to whether Williams was an employee or
agent of Yellow Cab on October 31, 1996, and that summary judgment on this issue was erroneous.
Pyne, 129 Ill.2d at 358, 135 Ill.Dec. 557, 543 N.E.2d 1304 (summary judgment is warranted when
there is no genuine issue as to any material fact and the moving party's right to judgment is clear and
free from doubt); Schrager, 328 Ill.App.3d at 703, 262 Ill.Dec. 916, 767 N.E.2d 376 (triable issue of
fact exists where there is a dispute as to a material fact or where reasonable minds might differ in
drawing inferences from undisputed facts).
The trial court did not make any specific findings about whether Williams was acting within
the scope of employment, but questioned whether Yellow Cab could be held liable for Williams'
conduct after Williams was convicted of an intentional crime. * * *
More importantly, under the doctrine of respondeat superior, an employer can be held
vicariously liable for the tortious acts of its employees (Pyne, 129 Ill.2d at 359, 135 Ill.Dec. 557, 543
N.E.2d 1304), including negligent, wilful, malicious, or even criminal acts of its employees when
such acts are committed in the course of employment and in furtherance of the business of the
employer (Brown v. King, 328 Ill.App.3d 717, 722, 262 Ill.Dec. 897, 767 N.E.2d 357 (2001)).
"Whether or not the employee's act is intentional or merely negligent is not the defining factor.
Instead, the focus is on whether or not the act was performed within the 'scope of employment'."
123
Hargan v. Southwestern Electric Cooperative, Inc., 311 Ill.App.3d 1029, 1032, 244 Ill.Dec. 334, 725
N.E.2d 807 (2000). Thus, assuming that Williams was Yellow Cab's employee, the dispositive
issue was not whether Williams acted intentionally, but whether his intentional, negligent, or even
criminal acts were within the scope of employment.
The term "scope of employment" had not been precisely defined, but Illinois uses the
following criteria in determining whether an act is within the scope of employment:
" '(1) Conduct of a servant is within the scope of employment if, but only if:
(a) it is of the kind he is employed to perform;
(b) it occurs substantially within the authorized time and space limits;
(c) it is actuated, at least in part, by a purpose to serve the master, * * *
***
(2) Conduct of a servant is not within the scope of employment if it is different in kind from that
authorized, far beyond the authorized time or space limits, or too little actuated by a purpose to
serve the master.' " Pyne, 129 Ill.2d at 359-60, 135 Ill.Dec. 557, 543 N.E.2d 1304, quoting
Restatement (Second) of Agency § 228 (1958).
The burden is on the plaintiff to show the contemporaneous relationship between the tortious
act and the scope of employment. * * * This relationship can be proved through circumstantial
evidence. * * * "If, from the papers on file, a plaintiff fails to establish an element of the cause of
action, summary judgment for the defendant is proper." * * * "Summary judgment is generally
inappropriate when scope of employment is at issue." * * * "Only if no reasonable person could
conclude from the evidence that an employee was acting within the course of employment should a
court hold as a matter of law that the employee was not so acting." Pyne, 129 Ill.2d at 359, 135
Ill.Dec. 557, 543 N.E.2d 1304. Whether the employee's conduct was so unreasonable as to make
his act an independent act of his own, rather than a mere detour or one incidental to employment, is a
question of degree which depends upon the facts of the case. * * * This question should be decided
by a jury, "unless the deviation is so great, or the conduct so extreme, as to take the servant outside
the scope of his employment and make his conduct a complete departure from the business of the
master." Bonnem, 17 Ill.App.2d at 298, 150 N.E.2d 383.
Accordingly, in Bonnem, the court concluded that a jury should decide whether an employee,
on an errand for his employer to pick up an automobile part from a garage, was acting within the
scope of his employment when he struck one of the garage employees with a broom. Bonnem, 17
Ill.App.2d 292, 150 N.E.2d 383. In Rubin v. Yellow Cab Co., 154 Ill.App.3d 336, 107 Ill.Dec. 450,
507 N.E.2d 114 (1987), the court held that a cab driver who did not have a passenger was clearly not
acting within the scope of employment when he left the cab and allegedly assaulted another driver
who had inadvertently obstructed the taxi's path. The court stated that a cab driver "is basically
relegated to transporting individuals from one destination to another" and is therefore unlikely to
attack a person who is neither a passenger nor connected with the cab company. Rubin, 154
Ill.App.3d at 339, 107 Ill.Dec. 450, 507 N.E.2d 114. Thus, the cab driver's assault of another driver
was a deviation from the conduct generally associated with driving a cab (Rubin, 154 Ill.App.3d at
339, 107 Ill.Dec. 450, 507 N.E.2d 114) and, therefore, outside the scope and not in furtherance of the
cab company's business (Rubin, 154 Ill.App.3d at 339-40, 107 Ill.Dec. 450, 507 N.E.2d 114).
124
We find, after a de novo review of the record, that material questions of fact exist as to
whether Williams was acting within the scope of an employment or agency relationship when Davila
was injured on October 31, 1996, because in contrast to Rubin, Williams was in the cab, transporting
a passenger, when the incident occurred.
At a deposition taken on March 28, 2001, Williams described the October 31, 1996, incident
as follows. At approximately 8:30 a.m., Williams picked up a fare at the East Bank Club who
wished to go to Dearborn and Monroe Streets, or a few blocks further to Dearborn Street and
Jackson Boulevard. Just after Williams turned from southbound LaSalle Street onto eastbound Lake
Street, traffic became blocked by three armored cars attempting to maneuver into a driveway at the
James R. Thompson Center. Williams sounded his horn, and a person appeared from the sidewalk
or curb behind the armored cars and walked toward the cab. Within a few seconds, the person
reached the cab, opened the front passenger door, took one of Williams' two licenses from a display
on the right side of the dashboard, and stood next to the open door. Williams thought the person was
an armored car driver. By then, the armored cars had moved, and Williams was blocking traffic.
He felt threatened and uncertain about what else the person might do, and he wanted to secure the
car from further intrusion. He also realized that he could not drive the cab without both licenses.
With the cab still in gear, Williams told the person he was going to pull to the curb. Williams then
moved forward a few feet to get the person out of the doorway and closed the cab door. As
Williams pulled forward, he could see the person was standing in the street and was not touching the
cab in any way. He parked the cab "pretty close" to the Thompson Center driveway, or even
"sticking out [of it]," and had traveled a distance of only 15 to 25 feet. Williams realized he must be
dealing with a local or suburban police officer. He told his fare, "I guess you'll have to get another
cab," and the passenger left without paying. Williams got out of the cab and walked to the back of
it to "find out what was going on, what the problem was," and was arrested for battery.
Additionally, Williams' assertion that there was no contact between his cab and Davila was
supported by (a) Williams' response to an interrogatory indicating that there was no damage to the
cab, (b) 12 photographs of the cab which did not show any apparent damage, and (3) the deposition
statement of Feldman, Yellow Cab's president, that "The vehicle was not damaged and was not
repaired to the best of [his] knowledge."
In a September 27, 1999, deposition, Davila provided a different version of incident which
nonetheless corroborated that Williams was inside the cab, transporting a passenger, at the time.
Davila was sitting outside the Thompson Center in a police vehicle, when he was asked to assist a
fellow officer who was directing armored vehicles into the Thompson Center's driveway. Williams'
cab was directly behind the armored cars, and Williams was sounding his horn, screaming, and
inching forward, ignoring the officer's instructions to wait quietly. The armored cars had blocked
traffic for about 10 minutes, and Williams had been sounding his horn steadily for about two minutes
when Davila approached the cab. Davila was wearing a dark blue uniform shirt and slacks, black
tie, badge, State of Illinois Police patches, police radio, mace, handcuffs, and weapon, but was not
wearing the uniform's "Smokey The Bear" hat. The windows of the cab were rolled up, and
Williams had a passenger. Davila knocked on the front passenger door, and within one second
opened it, bent down, and talked to Williams. Wiliams swore at Davila and " constantly" told
Davila to "get out, get out of the cab." Davila indicated that he was going to issue a citation for
"inching up and continu[ing to blow] the horn when * * * told not to." Williams' passenger never
125
said a word. The cab was still for about a minute after Davila opened its door, but when Davila
reached for Williams' identification card on the right side of the dashboard, Williams shifted from
neutral to drive and stepped on the gas pedal. The armored vehicles were no longer blocking Lake
Street, and Williams pulled the cab forward at five to six miles an hour. Davila got out of the cab,
but held onto the door with his right hand and onto to the roof with his left hand, while running
along with it. Davila was not dragged. When Williams slowed down from 15 or 18 miles per hour
to almost a complete stop, Davila let go and sat down because he was in pain. Williams' cab had
traveled 25 feet. Williams drove off but was stopped and arrested at Clark and Lake Streets, where
Williams' passenger got out of the cab.
Although Williams and Davila gave different versions of their meeting on October 31, 1996,
both indicated that Williams was in the cab, transporting a passenger at the time. An act is within
the scope of employment if it (a) is of the kind the person is employed to performed, (b) occurs
substantially within the authorized time and space limits, and (c) is actuated, at least in part, by a
purpose to serve the master. * * * Pursuant to a lease with Yellow Cab, Williams was transporting
an individual from one Chicago destination to another, when the public street became blocked, and a
stranger opened the cab's door and intruded into the vehicle. There is a dispute as to precisely what
occurred next. We indicated, above, that there are material questions of fact as to whether Williams
was Yellow Cab's agent or employee. We also find that there are material questions of fact as to
whether Williams' conduct deviated so greatly from his duties as a Yellow Cab driver, or was so
extreme that he was no longer performing the business of a Yellow Cab driver. * * *
Accordingly, we reverse the trial court's entry of summary judgment in Yellow Cab's favor
on the issue of agency, and we remand this case for further proceedings not inconsistent with this
opinion.
Reversed and remanded.
GORDON and CAHILL, JJ., concur.
Boyd v. Crosby Lumber & Mfg. Co.
250 Miss. 433, 166 So.2d 106 (1964)
Louis Fred BOYD
v.
CROSBY LUMBER & MANUFACTURING COMPANY.
No. 43053.
Supreme Court of Mississippi.
126
July 1, 1964.
*437 ETHRIDGE, Justice.
The question in this case is whether there was substantial evidence and reasonable inferences
therefrom to support the decision of the Workmen's Compensation Commission that J. E. Durham,
and thus Louis Fred Boyd, the appellant, was an employee of Crosby Lumber & Manufacturing
Company (called Crosby), and not an independent contractor. We think there was. Reversing its
attorney referee, the commission held Boyd was working under Durham for **107 Crosby, and was
therefore an employee of Crosby. It remanded the claim to its attorney referee to determine the
amount of compensation due claimant for his work-connected injury. The Circuit Court of
Wilkinson County reversed the commission and dismissed the claim.
I.
We state the facts and inferences from the evidence which the commission found and was
justified in finding: Boyd was forty-four years of age, married with five children. He had no
education, but was a capable driver of a caterpillar tractor. Crosby owns and operates a large
sawmill, and has a considerable acreage of timber land. Its crews cut the timber, but Crosby entered
into short-term written contracts (for one, two, or three months) with others to load and haul its logs
from the woods to the mill. Durham, the alleged independent contractor, had been engaged in this
type of work for Crosby for five or six years. The haulers carried the logs cut from a designated tract
of timber. *438 When the contract expired, another was entered into. Sometimes a second contract
was entered into covering the same tract of timber as covered the one which had expired. This was
the case in one of the instant contracts between Crosby and Durham.
The printed form of contract in question signed by Durham was in formal terms, and stated
that in consideration of $1 and other considerations Durham agreed to load, haul and deliver logs of
Crosby from the timber that Crosby owned, 'within two months from the date hereof from the lands
described.' The logs were to be delivered to the log ramp at Crosby, Mississippi by Durham, for
which Crosby agreed to pay him $17 per 1000 feet. Payments for such work were to be made twice
each month. It was agreed that Crosby 'is to have no control whatever over the matter, method or
means of loading, hauling, delivering or handling the said logs,' and that Crosby 'is to hold second
party (Durham) responsible only as to the result of his work as agreed to herein and not as to the
means by which it is accomplished.' The contract was executed by Crosby and Durham, with two
witnesses.
The prices in various contracts took into consideration certain variables such as distance and
terrain. Often contracts were entered into before the timber was cut. Durham had been engaged in
this type of work for Crosby for five or six years, doing either all or practically all of his work for it.
Another alleged independent contractor, Hightower, said he had been doing this kind of work for
ten years, hauling exclusively for Crosby that entire period of time. Durham's brother did similar
work for Crosby, and he 'indicated that he could breach or cease work under one of defendant's
contracts any time he so desired without obligation.'
127
Durham was paid by Crosby by check on the first and fifteenth of each month. Hauling of
the logs and related work performed by Durham was 'an integral *439 part of the defendant's
business and absolutely necessary to the business as defendant depended on' him and other haulers.
Crosby on various occasions caused these haulers to cease their operations when weather conditions
were bad, and when the mill yard was crowded with logs. The time in which Durham and his crew
could haul the logs and unload them at the mill was limited by Crosby to a period between 7:00 a. m.
and 4:00 p. m. daily. Durham and other haulers were directed where and how to spot trucks for
unloading, and occasionally were caused delay in their operations by having to wait in line at the
mill for that purpose. Further delay sometimes was caused by Crosby when Durham and his crew
were waiting for logs to be cut. Crosby's land and timbermen 'frequently inspected the premises and
told claimant to stay off the little timber and not to mash it down, and sent him back to pick up single
logs left behind.' Boyd knew his job well and needed no direct supervision. Crosby sold supplies to
Durham and other similar contractors on credit, and then held it out of their pay. For the purpose of
operating the mill and expediting the hauling **108 contracts, Crosby had a repair shop where these
contractors had their equipment repaired. The costs of such repairs were withheld from their pay.
All of the hauling for Crosby was carried out under contracts similar to those with Durham, except
that done by a crew of three men who were employed directly by the company for limited purposes.
Durham hired Boyd and two other persons, fixed their rate of pay, hours of employment, and
paid them by his personal checks. He directed these men in the hauling operations. Crosby did not
select Boyd or the other men working under Durham, and made no deductions from their pay for
social security or income withholding taxes. On March 9, 1961, while working in the woods under
Durham, Boyd received injuries for which this claim was filed.
*440
II.
An analysis of the pertinent rules and cases is necessary to show the reasons for affirmance
of this award of compensation benefits. In general, it is said that the right to control, not actual
control of, the details of the work is the primary test of whether a person is an independent contractor
or an employee. Relevant characteristics or tests are usually listed, with all except the control test
being considered merely indicia pointing one way or the other. See A.L.I., Rest. Agency 2d (1958), '
220, p. 485; Kisner v. Jackson, 159 Miss. 424, 132 So. 90 (1931); Carr v. Crabtree, 212 Miss. 656,
55 So.2d 408 (1951); Shumpert Truck Lines v. Horne, 227 Miss. 648, 86 So.2d 499 (1956). No
general rule can be stated as to the weight of these elements, over fifteen in number. Their
significance varies according to the facts of each particular case. The weight to be given each of the
factors pertaining to the employee-contractor question is ordinarily to be decided by the trier of facts.
It is the ultimate right of control, not the overt exercise of that right, which is decisive. Probably the
four principal factors under the control test, are '(1) direct evidence of right or exercise of control; (2)
method of payment; (3) the furnishing of equipment; and (4) the right to fire.' 1 Larson, Workmen's
Compensation Law, ' 44.
There have been a number of cases from this jurisdiction involving the employee-contractor
distinction with reference to loggers and lumber haulers. In some of them the court found that the
facts reflected an independent contractor relationship. Carr v. Crabtree, supra; Simmons v. CatheyWilliford & Jones Company, 220 Miss. 389, 70 So.2d 847 (1954); Stovall's Estate v. A. Deweese
Lumber Co., 222 Miss. 833, 77 So.2d 291 (1955); Bardwell's Estate v. Perry Timber Co., 222 Miss.
128
854, 77 So.2d 708 (1955); E. L. Bruce Co. v. Hampton, 225 Miss. 242, 83 So.2d 101 (1955);
Ainsworth v. Long-Bell Lumber *441 Co., 233 Miss. 38, 101 So.2d 100 (1958); Employers Liability
Ins. Co. of Wisconsin v. Haltom, 235 Miss. 74, 108 So.2d 29 (1959).
In other logging cases it has applied the control test, and held that the party was an employee.
Sones v. Southern Lumber Co., 215 Miss. 148, 60 So.2d 582 (1952); Marter v. Cathey-WillifordJones Lumber Co., 225 Miss. 118, 82 So.2d 724 (1955); Employers Ins. Co. of Alabama v. Dean,
227 Miss. 501, 86 So.2d 307 (1956). In Sones the key test was whether the person 'is in fact
independent, free of the will of his employer--actually and substantially free from his control.' It was
noted that the control test stemmed largely from the common law rule in negligence cases, dealing
with vicarious liability; and 'the rule is even more liberal in compensation cases.' The servant
concept at common law performed the function of delimiting the scope of a master's vicarious tort
liability. In contrast, compensation law 'is concerned not with injuries by the employee in his
detailed activities, but with injuries to him as a result not only of his own activities * * * but of * * *
co-employees, * * *. To this issue, the right of control of details of his work has no such direct
relation as it has to the issue of vicarious tort liability.' 1 Larson, ' 43.42, pp. 630-631. Further,
Sones gave weight to **109 the fact that the logging job was an integral part of the overall operation.
The general rule is stated thus in 1 Larson, ' 45.22, p. 633:
'The hauling and loading of logs, ties, and the like have usually been classified as
part of the employer's business, so as to bring within the act trucker-owners who are
paid by quantity and who are free to hire their own assistants and, in some cases, to
work on their own time. As shown above in connection with the question of extent
of control of details, this is particularly true when the activities of the truckers must
be integrated *442 and coordinated with the employer's over-all production pattern.'
Halliburton v. Texas Indemnity Ins. Co., 147 Tex. 133, 213 S.W.2d 677 (1948);
Bowser v. State I.A.C., 182 Or. 42, 185 P.2d 891 (1947); Burruss v. B.M.C. Logging
Co., 38 N.M. 254, 31 P.2d 263 (1934); Burchett v. Department of Labor and Ind.,
146 Wash. 85, 261 P. 802, 263 P. 746 (1927); Hebert v. Gates, 50 So.2d 859
(La.App.1951); State Hwy. Comm. v. Brewer, 196 Okl. 437, 165 P.2d 612 (1946);
Blaine v. Ross Lbr. Co., 224 Or. 227, 355 P.2d 461 (1960).
Wade v. Traxler Gravel Co., 232 Miss. 592, 100 So.2d 103 (1958), involving a truck owner
who hauled gravel by the cubic yard, examined in depth both the control test, with reference to
whether in fact the man was truly independent, and the relative nature of the work test. The
commission's holding that he was an independent contractor was reversed. Wade was an employee.
The fact that the hauler was paid a unit price per yard was not proof in itself he was an independent
contractor. The majority of modern decisions, it was said, 'involving continuity of service give little
weight to the fact that a trucker is compensated at so much per thousand feet of logs or lumber * * *.'
It was further stated that 'there is a growing tendency to classify owner-drivers as employees when
they perform continuous service which is an integral part of the employer's business.' (Emphasis
added). Ownership of the truck was not determinative. Traxler Gravel cited with approval 1 Larson,
' 45, p. 657, to the following effect:
129
'The modern tendency is to find employment when the work being done is an integral
part of the regular business of the employer, and when the worker, relative to the
employer, does not furnish an independent business or professional service.'
The Court then concluded:
'With these facts in mind, it cannot be doubted that the work which Wade and the
other truckers performed *443 constituted an integral part of the regular business of
the company; and we think that it cannot be said that Wade and the other truckers,
relative to Traxler, were engaged in an independent business or were rendering a
professional service.'
In Shumpert Truck Lines v. Horne, 227 Miss. 648, 86 So.2d 499 (1956), a truck line engaged
alleged independent contractors, truck owners, to haul its freight, and Horne along with others
performed this job. The court cited with approval the above statement by Larson, and said:
'In this case it is true that Shumpert did not directly employ Horne himself, but Horne
was not engaged in any independent business or professional service but devoted his
entire time to the business of Shumpert, delivering and picking up freight and
collecting therefor, and his wages were paid out of the freight receipts of Shumpert
Truck Lines. He was not an independent contractor nor was his immediate superior
Harmon. To all intents and purposes, Horne was the employee of Shumpert, and
Shumpert could have stopped his services as well as those of Harmon at any time.'
Mississippi Employment Security Comm. v. Plumbing Wholesale Co., 219 Miss. 724, 69
So.2d 814 (1954), although applying the control test, also considered the relative nature of the work
test, the fact that the alleged independent contractor was doing the company's regular business, was
an integral part of its basic operation, and was not **110 furnishing an independent business or
professional service. Bush v. Dependents of Byrd, a gravel truck case, 234 Miss. 782, 108 So.2d
211 (1959), applied both the control and the relative nature of the work test and followed Traxler
Gravel. See also Kahne v. Robinson, 232 Miss. 670, 100 So.2d 132 (1958).
In short, in workmen's compensation cases Mississippi decisions and the weight of authority
elsewhere hold that there are two tests to be considered in *444 analyzing an employee-independent
contractor question: (1) the control test; and (2) the relative nature of the work test. The latter
contains these ingredients: 'the character of the claimant's work or business--how skilled it is, how
much of a separate calling or enterprise it is, to what extent it may be expected to carry its own
accident burden and so on--and its relation to the employer's business, that is, how much it is a
regular part of the employer's regular work, whether it is continuous or intermittent, and whether the
duration is sufficient to amount to the hiring of continuing services as distinguished from contracting
for the completion of a particular job.' 1 Larson, ' 43.52; see Comment, Employee or Independent
Contractor, 26 Miss.L.J. 250 (1955).
Appellee relies on Crosby Lumber & Manufacturing Co. v. Durham, 181 Miss. 559, 170 So.
285 (1938), and contends this is a precedent controlling here. We do not agree. D. P. Durham drove
a logging truck owned by Stockstill, who executed with Crosby a contract similar in part to the
130
present one. Durham was killed while driving this truck with defective tires. His widow sued in tort
for damages. It was held that, since the evidence did not disclose exercise of any control by Crosby
over Stockstill, the relation had to be determined by the contract itself, and Stockstill was an
independent contractor. There were no recurring, short-term contracts over a long period of time,
but only one contract for six months. In the instant case many facts reflect Crosby's right of control
over J. E. Durham. His status is not determined exclusively by the contract. Moreover, we have
previously held that in workmen's compensation cases the contractor-employee relation involves
some different criteria than does a master's liability in tort for the act of his servant. Durham was not
a workmen's compensation case, and did not involve many of the issues discussed in this opinion. It
was decided over a decade *445 before the act was passed. Hence, because the facts are different,
and it did not involve application of the workmen's compensation act, Durham is not in point.
* * *
Marvel v. U.S.
719 F.2d 1507 (10th Cir. 1983)
United States Court of Appeals,
Tenth Circuit.
Fred MARVEL and Angela Marvel, d/b/a Marvel Photo, Plaintiffs-Appellants,
v.
UNITED STATES of America, Defendant-Appellee.
No. 80-1497.
Oct. 26, 1983.
Released for Publication Oct. 19, 1983.
HOLLOWAY, Circuit Judge.
Taxpayers Fred and Angela Marvel appeal from a judgment of the district court finding
taxpayers liable for unpaid Federal Insurance Contribution Act (FICA), Federal Unemployment Tax
Act (FUTA), and Federal withholding taxes. Taxpayers contend that the district court erred (1) in
referring their case to a federal magistrate for trial without statutory or constitutional sanction, (2) in
finding that certain individuals who performed services for taxpayers' business *1510 were
employees rather than independent contractors, (3) in denying taxpayers' motion for summary
judgment and permanent restraining order when the notices of assessment were made in taxpayers'
trade name, Marvel Photo, rather than taxpayers' individual names, and (4) in assessing penalties.
We affirm.
I
131
Taxpayers operated a photography business under the name of Marvel Photo for tax years
1966 through 1971. In the course of this business, taxpayers utilized the services of various
individuals, some of whom worked at taxpayers' studio and some of whom worked at their own
homes. Taxpayers treated all of these individuals as independent contractors and did not collect or
pay federal employment taxes.
In September 1974, the IRS issued assessments to Marvel Photo for unpaid FICA, FUTA,
and federal withholding taxes for the period of January 1, 1966, through December 31, 1971. On
November 1, 1974, the IRS issued a series of "Final Notices Before Seizure" stating that within ten
days, and without further notice, any bank accounts, receivables, commissions, or other income or
property belonging to taxpayers would be levied upon or seized. On November 6, 1974, taxpayers
paid the employment taxes of one alleged employee, for the periods in question, and filed a claim for
refund of this partial payment with the IRS. After six months elapsed without a determination of
their refund claim by the IRS, taxpayers filed suit in federal district court for refund of the taxes paid
and abatement of the remainder of the assessments. The Government counterclaimed for the
balance of the unpaid taxes.
In conjunction with their suit, taxpayers moved for a temporary restraining order and
preliminary injunction to restrain the IRS from levying on taxpayers' assets during the litigation.
The district court, finding its jurisdiction to grant injunctive relief curtailed by the Anti-Injunction
Act, 26 U.S.C. ' 7421(a), denied the motion, and we affirmed. Marvel v. United States, 548 F.2d
295, 301 (10th Cir.), cert. denied, 431 U.S. 967, 97 S.Ct. 2924, 53 L.Ed.2d 1062 (1977).
Prior to trial, the parties stipulated to the employment status of all but thirty-one individuals.
The status of the remaining individuals was decided at trial, which, with the parties' consent, was
heard before a federal magistrate with the assistance of an advisory jury.
At trial, the advisory jury found that seven individuals were employees and that the
remaining twenty-four individuals were independent contractors; only the status of the seven
individuals found to be employees is in dispute on this appeal. The district court adopted the
magistrate's recommendations, which were in accordance with the findings of the advisory jury.
The court also rejected taxpayers' motion for summary judgment and permanent injunction in which
taxpayers contended that the notices of assessment to Marvel Photo were defective and therefore
invalidated taxpayers' tax liability. From the adverse judgment which resulted, taxpayers brought
this timely appeal.
* * *
IV
With the assistance of an advisory jury, the magistrate made findings and recommendations,
which the district judge accepted, that seven of the thirty- one individuals whose employment status
was in issue were employees rather than independent contractors. Taxpayers contend that the
findings were clearly contrary to the record and controlling authority.
An individual is an employee for federal employment tax purposes if he has the status of
employee under the usual common law rules applicable in determining the employer-employee
132
relationship. 26 U.S.C. '' 3121(d), 3306(i), 3401(c) (1976). Guides for determining that status are
found in three substantially similar sections of the Employment Tax Regulations. 26 C.F.R. ''
31.3121(d)-1, 31.3306(i)-1, 31.3401(c)-1 (1976). Generally, the relationship of employer and
employee exists when the person for whom the services are performed has the right to direct and
control the method and manner in which the work shall be done and the result to be accomplished,
while an independent contractor is one who engages to perform services for another according to his
own method and manner, free from direction and control of the employer in all matters relating to
the performance of the work, except as to the result or the product of his work. [FN11]
* * *
*1515 In reviewing the trial court's findings, we are mindful that the determination of whether an
individual is an employee is a question of fact and will not be disturbed on appeal unless it is clearly
erroneous. [FN12] See Hoosier Home Improvement Co. v. United States, 350 F.2d 640, 643 (7th
Cir.1965). We cannot say that the trial court's findings here that the seven individuals were
employees rather than independent contractors are clearly erroneous.
* * *
Three of the individuals, Mike Warren, Ronnie Cooper, and Danny Allfred, were delivery
boys. With respect to Mike Warren, Fred Marvel testified that he performed delivery services for
the Marvels, that he used his own car and furnished his own gas, and that the Marvels did not set his
hours. (III R. 77-79). However, his mother, Mae Ellen, testified that in addition to making
deliveries, her son dried pictures at the studio daily from noon to five o'clock and that the Marvels
reimbursed him for the cost of gasoline. (III R. 149-55). Taxpayers' assertion that Warren was an
independent contractor providing only delivery services was undermined, and the trial court was
justified in concluding otherwise. With respect to Ronnie Cooper and Danny Allfred, Angela
Marvel testified that all the delivery boys were treated the same way, were paid on the same basis,
and that control and discretion were all the same. (III R. 123). Thus, the trial court's finding that
they also were employees was not without a sufficient factual basis.
Evelyn Offenbacher, an oil colorist, was also found to be an employee. Although most of the
other oil colorists were determined to be independent contractors, Angela Marvel testified that
Evelyn Offenbacher did other work for the Marvels in the shop such as packaging proofs and cutting
strips of film. (R. III 122). Lucille Sanders Towery, Evelyn's sister, corroborated this testimony,
stating that Evelyn performed work on identification pictures at the studio and occasionally did some
retouching at home. (III R. 132). Based on this testimony, the finding that Evelyn Offenbacher was
an employee cannot be rejected as clearly erroneous.
Lucille Sanders Towery performed retouching services for the Marvels, but unlike other
retouchers, was found to be an employee. This result, however, is justified by Mrs. Towery's own
testimony. Mrs. Towery stated that in addition to retouching at home she performed various duties
at the studio such as taking pictures, "spotting" (removing white spots from photographs), cutting
negatives, drying proofs, and working as a receptionist and telephone operator. (III R. 127-29). She
explained that she had definite hours of employment for her studio work and was paid an hourly
basis for that work. (III R. 129-31). Finally, she said that Angela Marvel had represented to her that
Marvel Photo would take care of her taxes. (III R. 130). Once again, there was a sufficient factual
basis for the trial court to find that Mrs. Towery was an employee.
133
Sue Foley, a darkroom worker, was also found to be an employee rather than an independent
contractor. Taxpayers emphasize Fred Marvel's testimony that Mrs. Foley carried a key to the shop
and "worked about when she wanted to." (III R. 92). When Mrs. Foley was called as a witness,
however, she denied that she had a key to the shop. (IV R. 12). Moreover, her testimony makes
clear that the Marvels exercised supervision and control over her work. She stated that she was paid
by the hour (IV R. 7); that she worked regular hours (IV R. 13); that her hours were set by her
supervisor (IV R. 13); and that she was paid for an injury that she had sustained on *1516 the job.
(IV R. 8). Finally, she said it was her understanding that the Marvels would take care of her taxes.
(IV R. 9). In considering this evidence, the trial court was fully justified in concluding that she was
an employee rather than an independent contractor.
Perhaps taxpayers' most substantial challenge is to the finding that Betty Briggs was an
employee. However, in their testimony at trial, Fred and Angela Marvel were unable to state with
any certainty whether Betty Briggs worked only as an oil colorist or whether she performed office
work. (III R. 118, 124-25). Fred Marvel did testify that he was not positive about Betty Briggs, but
that to the best of his knowledge, all she did was oil coloring. (III R. 118). Nonetheless, because the
testimony is indefinite, and because taxpayers had the burden of proof to show that the individual
was an independent contractor, the assessments having been admitted in evidence, see Fidelity Bank,
N.A. v. United States, 616 F.2d 1181, 1186 (10th Cir.1980); Psaty v. United States, 442 F.2d 1154,
1160 (3d Cir.1971); cf. United States v. Janis, 428 U.S. 433, 441-42, 96 S.Ct. 3021, 3025-26, 49
L.Ed.2d 1046 (1976), we cannot say that the trial court's determination was clearly erroneous.
In sum, we are satisfied that the findings challenged were not clearly erroneous and should be
sustained.
* * *
AFFIRMED.
Good v. Berrie
122 A. 630
Supreme Judicial Court of Maine.
GOOD
v.
BERRIE
Nov. 28, 1923.
On Motion from Supreme Judicial Court, Aroostook County, at Law.
134
HANSON, J.
Action on the case to recover damages for injuries to property sustained by the plaintiff in an
automobile collision, which occurred at about 7 o'clock p. m. July 29, 1921. The jury returned a
verdict for the plaintiff for $494.25, and the case is before us on defendant's general motion.
The plaintiff was driving his car, a Franklin five-passenger weighing about 2,300 pounds. An
employee of the defendant, one Gillis, was driving the defendant's automobile, a Ford touring car,
weighing about 1,900 pounds. Defendant is the owner and proprietor of a store in Houlton, selling
pianos and other musical instruments, and, in February before the accident, and continuously thereto,
and thereafterwards until the November following, defendant employed Mr. Gillis "to sell pianos,
phonographs and other musical merchandise, to the public, out on the road as well as in the store."
Gillis was to report at the store in Houlton village each night, and at the time of the accident was on
his way south. The plaintiff was traveling north. The automobiles collided at a point one and one half
miles from Monticello village, and in the town of Monticello. During the afternoon of the day of the
collision, Gillis attended a ball game at Monticello, and later in the same afternoon attended another
game at the adjoining town of Bridgewater, and was returning from the Bridgewater game when the
accident occurred. The plaintiff claimed that the collision occurred on the east, or his right, side of a
state road. The defendant claims that the automobiles collided on the west side of the road,
defendant's lawful side of the highway.
The defense was the general issue, and consisted of two propositions: (1) That the accident
was due wholly, or in part, to the negligence of the plaintiff; (2) that Gillis, at the time of the
accident, was not acting in the course of his employment by the defendant, and in the course of his
duty as agent of the defendant.
[1] In his charge to the jury, to which no exception was taken, the presiding justice submitted
the following question:
"Was Gillis, at the time of the accident, acting in the course of his employment by the defendant,
and in the course of his duty as agent of the defendant?"
The answer was, "Yes."
The issue was presented clearly under proper instruction by the presiding justice, and the jury
passed upon the questions raised. We have examined the record closely, and we are not persuaded
that the verdict of the jury is manifestly wrong. The defenses raised were questions for the jury under
proper instructions. Whether the going to the ball games was a detour, with or without intent to do
business for his master, and to use some part of the time to attend a baseball game, or whether,
without business purposes of his master or himself, he had attended ball games outside his
authorized territory, and was bent "on a frolic of his own," are questions which could only be
answered by the jury from all the facts and circumstances in the case. It is very evident that whatever
the nature of his business, if he had business aside from that on the baseball ground, he had
accomplished the same, and was at the moment of the accident returning by the ordinary traveled
way in the direction of his master's store at Houlton. He was within the limits of the town of
135
Monticello at the time of the collision, where he had authority to be, and to act for the defendant that
day. He was apparently on the way to the home of Mr. Hoyt, with whom he had left a phonograph
for trial. Somewhere, at some time that evening, he resumed the agency admitted by the defendant,
and continued in his employment for several weeks after this suit was brought. When and where he
resumed his agency were questions for the jury. Whether or not he was acting within the scope of his
employment at the time of the collision was also a question of fact for the jury. Schulte v. Holliday,
54 Mich. 73, 19 N. W. 752. The last-named case holds that the finding of the jury is conclusive. Note
to Ritchie v. Waller, 63 Conn. 155, 28 Atl. 29, 27 L. R. A. 161, 38 Am. St. Rep. 361.
In Ritchie v. Waller, supra, a servant was sent by his master with the latter's team to procure
a load, and deviated from the most direct course home for the purpose of seeing about the repair of
his own shoes, and the court held that such deviation was not of itself sufficient to show that he had
so far departed from the execution of the master's business as to relieve the master from liability for
his negligent management of the team. In reaching a conclusion the court say:
"To decide the question in a case like the present, the trier must take into account, not only the
mere fact of deviation, but its extent and nature relatively to time and place and circumstances, and
all the other detailed facts which form a part of and truly characterize the deviation, including often
the real intent and purpose of the servant in making it. Without spending [any] more time upon this
point, we think the above question is one of fact in the ordinary sense, and that the case at bar
clearly falls within the class of cases where such question is strictly one of fact to be decided by
the trier."
In Legace v. Belisle Bros. (R. I. 1923) 121 Atl. 395, where defendant's servant was permitted to use
defendant's truck for his private business, and in returning to his regular employment digressed
somewhat from his customary route, and while so doing collided with plaintiff's truck, it was held
that whether the accident occurred in the course of employment was a question for the jury.
[2] The automobile used by Gillis was the property of the master, the servant in addition to
his other admitted duties was the driver and as to third persons it was his legal duty to drive properly,
and, when driving for the master, the master is liable for his negligent and tortious acts done in the
scope of his employment.
"If a coachman, driving his master, and being ordered not to drive so fast, disobeys and thereby
occasions an injury, the master is responsible, because he is still driving for his master, though
driving badly." Brown v. Copley, 7 Mann. & Granger, 566, 135 E. C. L. 566, by Creswell, J.;
Stickney v. Munroe, 44 Me. 195; Goddard v. Grand Trunk Railway, 57 Me. 202, 2 Am. Rep. 39;
and cases cited; Young v. Maine Central R. R. Co., 113 Me. 118, 93 Atl. 48.
The defendant conceded in his testimony that if the servant procured business for him outside
the limits of Monticello, he would accept the same. The servant was not called by the defendant. His
testimony would have thrown some light on the issue, and would have explained the reason for his
visit to Bridgewater at least. It is clear that the purpose of his detour, whatever it was, had been
accomplished, and that he was back in the town of Monticello and driving the master's automobile in
the direction of the master's place of business, when the collision occurred. The testimony justified
the jury in so finding, and further to find that the servant at the time of the collision was acting in the
136
course of his employment, and in the course of his duty as agent of the defendant.
We think the verdict is amply sustained by the evidence.
Motion overruled.
Cowan v. Eastern Racing Ass’n
330 Mass. 135, 111 N.E.2d 752 (1953)
COWAN
v.
EASTERN RACING ASS'N, Inc.
Supreme Judicial Court of Massachusetts, Suffolk.
Argued Nov. 6, 1952.
Decided April 7, 1953.
*136 COUNIHAN, Justice.
This is an action of tort to recover for an assault on the plaintiff by certain persons alleged to
be agents or employees of the defendant when the plaintiff was a business invitee of the defendant at
Suffolk Downs, a race track in Boston, owned by the defendant. The answer was a general denial,
and by amendments there were special answers in the first of which the defendant denied that the
assault was committed by the defendant, its agents or servants or by any one acting in behalf of the
defendant, and further set up that if there was any assault on the plaintiff it was committed by two
police officers of the city of Boston acting in their own defence and in the public interest; and the
second set up that the defendant at the time of the assault was acting as an agent for the National
War Fund, Inc., an established charitable organization, in the conduct of the racing meeting on the
day of the assault and that all profits derived from such meeting were turned over to the National
War Fund, Inc., and other local charitable *137 organizations without any benefit or profit to the
defendant.
This action was tried to a jury together with two other actions against the police officers who
were involved in the assault. [FN1] The jury returned verdicts against all three defendants.
FN1. Cowan v. McDonnell [Cowan v. Ingenere], Mass., 111 N.E.2d 759.
This action comes here upon exceptions of the defendant to the denial of its motion for a
directed verdict; to the denial of fourteen requests for rulings; to five portions of the judge's charge;
and to the admission of evidence.
137
* * *
From evidence disclosed in the bill of exceptions considered in its aspect most favorable to
the plaintiff the jury could reasonably have found the following facts: On August 11, 1945, the
plaintiff, with his wife and her daughter, was in attendance at Suffolk Downs, a race track owned by
the *139 defendant. They all paid the required admission fees. A racing meeting was being held
under a license granted by the commission. A license had been originally issued to the defendant to
conduct a racing meeting for fifty-four days beginning June 11, 1945, and ending August 11, 1945,
except Sundays. Following a written request to it from the National War Fund, Inc., an established
charitable organization, the defendant petitioned the commission to transfer that part of the license
for the last four days of such meeting to the National War Fund, Inc., with the defendant acting as its
agent. These days were from August 8 to August 11, 1945, inclusive. On August 1, 1945, the
commission voted to approve the transfer of the license of the defendant for these days to the
'National War Fund, Inc.--Eastern Racing Association, Inc. Agent.' The net proceeds of these four
days of racing were substantially paid to the National War **755 Fund, Inc., and certain other local
charities.
The plaintiff bought a $10 ticket on a horse called 'Johnny, Jr.,' to win in the seventh race.
This horse finished first by a length and the plaintiff noticed nothing wrong in the manner in which
the race was run. As he went to collect on his ticket he heard loud 'hollering' and he learned that a
foul had been claimed. Subsequently the race was declared official and it appeared that 'Johnny, Jr.,'
was placed third so that the win ticket was of no value. The plaintiff became excited and upset, and
sought information, without success, at the window where he bought the ticket, as to why his horse
was disqualified. He than talked with the clerk of the scales. As 'a result of that conversation' he
went across the track to the stewards' stand. To get there he had to climb over an iron fence four and
one half feet in height and cross the rece track. The stand which was on the other side of the track
opposite the grandstand looked as if it was 'on stilts with stairs going around and up.' It was
enclosed by glass. The plaintiff walked up the circular stairway and entered a room about eighteen
feet by nine feet in size. He saw there one Almy, one Conway, and one Conkling who is also called
Conklin in the bill of exceptions. *140 These three men were the stewards appointed by the
defendant under Rule 22 of the rules of the commission and had been acting as such during the
earlier days of the meeting as well as from August 8 to August 11, 1945, inclusive. The plaintiff put
his ticket on 'Johnny, Jr.,' on a table in front of Almy and asked him why that horse had been
disqualified from winning. Almy told him that he would talk with him after he had finished making
out a report which he was then writing. The plaintiff waited for two or three minutes and then spoke
to Almy again. He made no attempt to strike anybody and there was no loud talk. While he was
standing at the table talking to Almy, Conkling walked up to the plaintiff and kicted him in the
'shins.' Conkling then beckoned to the police and two officers came into the room. He said to them,
'Throw the son of a bitch out.' They were the defendants in the actions tried with this action. They
grabbed the plaintiff from behind and, as he struggled to get away, they beat him many times on his
head and body with their billies. The plaintiff fell to the floor where he was beaten again and kicked
by the police officers. The plaintiff was brutally assaulted. He suffered severe injuries, was
bleeding profusely from his head, and as a result was taken to the Boston City Hospital for treatment.
The police officers were part of a detail of the Boston police department on duty at Suffolk Downs
under a Lieutenant O'Brien. The commission did not hire or pay the police although it could have
because the commission had such power under the statute but it never exercised it. There was no
138
direct evidence as to who hired the police but it could be fairly inferred that they were hired by the
defendant because a check in payment for their services in the sum of $1,368 was drawn to the order
of the police commissioner (of Boston) and signed 'Eastern Racing Assn. Inc. Agents for National
War Fund, Inc.,' by its officers. This check was indorsed by the police commissioner. The three
stewards in the stand were appointed by the defendant or by it at least as agent for the National War
Fund, Inc., and were paid by checks of the 'Eastern Racing Assn. Inc. Agents for National War *141
Fund, Inc.' The defendant appointed and paid these stewards and had a right to discharge them.
We first consider the defendant's exception to the denial of its motion for a directed verdict.
The disposition of this exception depends largely upon the application of the principle of respondeat
superior, and we must therefore determine whether the steward Conkling or the police officers who
were involved in the assault were at that time in the control of the defendant and acting as its agent
or agents within the scope of their employment.
The principle respondeat superior is not applicable unless it could reasonably be found on the
evidence together with all permissible inferences 'that the **756 relation of master and servant
existed at the time the plaintiff was injured, whereby the * * * act of the servant was legally
imputable to the master. The test of the relationship is the right to control. It is not necessary that
there be any actual control by the alleged master to make one his servant or agent, but merely a right
of the master to control. If there is no right of control there is no relationship of master and servant.
If the power of control rests with the person employed, he is an independent contractor.' Khoury v.
Edison Electric Illumination Co., 265 Mass. 236, 238, 164 N.E. 77, 78, 60 A.L.R. 1159.
This is the rule in this Commonwealth and is generally accepted in other jurisdictions.
Restatement: Agency, ' 220. Meechem on Agency (2d ed.) ' 1863. 57 C.J.S., Master & Servant, '
563. 35 Am. Jur., Master & Servant, ' 539. This rule is applicable although the choice of persons for
the particular work is required to be made from a limited class. Restatement: Agency, ' 223.
In the Khoury case it was also said 265 Mass. at page 239, 164 N.E. at page 78, 'Although the
conclusive test of the relationship of master and servant is the right to control, other factors may be
considered in determining whether the right to control exists, but they are subordinate to this primary
test. This court has held that the method of payment is not the decisive test. * * * Neither is the fact
that * * * [one] was an employee of the defendant and had no other employment decisive, for a
person *142 may be an agent or a servant as to one part of an undertaking, and an independent
contractor as to other parts.' To the same effect is Wescott v. Henshaw Motor Co., 275 Mass. 82, at
page 87, 175 N.E. 153, at page 155, where it is said, 'It has been frequently decided that one may be
the agent or servant of another in some matters and not the agent or servant in other matters.'
Likewise 'it is the right to control rather than the exercise of it that is the test. * * * While engaged
in the same general work, one may be at certain times and for certain purposes the servant of a party,
and at other times or for other purposes an independent contractor or the servant of another.'
McDermott's Case, 283 Mass. 74, 77, 186 N.E. 231, 233, and cases cited.
Where more than one conclusion is possible the question is for the jury. Marsh v. Beraldi,
260 Mass. 225, 231, 157 N.E. 347. 'The inferences which should be drawn from the evidence as to
the relations of * * * [one to another] and to the defendant, were not matters of law as the defendant
contends, but questions of fact to be decided by the jury under suitable instructions.' Cain v. Hugh
139
Nawn Contracting Co., 202 Mass. 237, 239, 188 N.E. 842. It was also said in Choate v. Board of
Assessors of Boston, 304 Mass. 298, at page 300, 23 N.E.2d 882, at page 884, 'The existence of the
relationship of principal and agent and the authority of the latter to represent the former are questions
of fact if there is evidence of an appointment by the principal and a delegation to the agent of duties
to be performed by him for the principal, or if the conduct of the parties is such that an inference is
warranted that one was acting in behalf of and with the knowledge and consent of another.'
In the instant case we are of opinion that one of two conclusions could be found by the jury
as matter of fact on the evidence. The first one is that in determining the qualifications of horses and
jockeys, corrupt riding, questionable practices such as the artificial stimulation of horses, the weights
of jockeys, fouls, and the order in which horses finish, the stewards appointed and paid by the
defendant had exclusive jurisdiction, and that when acting upon such matters these stewards could be
found to be agents of the *143 commission or independent contractors required to be employed by
the defendant under the rules of the commission. On the other hand, on the evidence the jury could
reasonably find that at the time of this assault the steward Conkling was acting as an agent for the
defendant even though the rules of the commission provide that the stewards appointed by the
defendant shall have control over and free access to all stands.
**757 The plaintiff was a business invitee of the defendant, at least in its capacity as an agent for
the National War Fund, Inc. Whether he was properly in the stewards' stand to make a complaint is
of no consequence for excessive force was used to evict him. While talking to one of the stewards
about the complaint, Conkling assaulted him and calling the police, by the use of opprobrious words,
told them to throw the plaintiff out of the stand. A struggle ensued and a brutal assault followed.
Conkling was appointed and paid by the defendant. The stand where the assault took place was
owned by the defendant. Conkling apparently assumed that the plaintiff was an interloper and
causing a disturbance. Conkling and the other stewards under the rules had control of the stand and
presumably had authority to evict obnoxious persons from it and that was for the purpose of seeing
to it that racing was orderly conducted. Proper performance of their duty in this respect could
reasonably be expected to enhance the reputation of the defendant with its customers for maintaining
order and advance its business which was to conduct racing for a profit. If they failed to perform
their duties in this respect, the defendant could discharge them. To this extent at least it could be
found that the defendant had a right to control them.
It is not unreasonable to assume that Conkling believed that to preserve order in the stand he
had a right to call upon the police to assist him. Otherwise there was no need of the presence of the
police at the stand. It is clear therefore that if Conkling assaulted the plaintiff, or if the police at his
instigation were guilty of the assault, the defendant *144 could be found liable. 'An inference of
responsibility on the defendant's part was by no means the only permissible inference, but we think
that it was a possible one.' Hartigan v. Eastern Racing Association, Inc., 311 Mass. 368, 371, 41
N.E.2d 28, 30.
But apart from the question of agency of Conkling and the responsibility of the defendant for
his conduct, we are of opinion that the question whether the police officers involved in the assault
were acting as agents of the defendant was also for the jury to decide. They were paid by the
defendant and they were hired by the defendant for the obvious purpose of preserving and
maintaining order on the premises of the defendant during the racing meetings. The maintenance of
140
such order, the prevention of breaches of the peace, with the possibility of ensuing riots, would serve
to afford protection to and avoid damage to the physical plant used for racing, which was conceded
to be owned by the defendant. In this capacity the police officers were acting not as public officers
in a public place but as employees of the defendant for its private purposes on its private premises.
It is also reasonable to assume that part of their duty was to prevent annoyance or injury to patrons of
the defendant and to that end they could evict from any part of the premises persons who might be
causing a disturbance. 'Acts habitually performed by an agent may import acquiescency by the
principal and become evidence of his authority.' Hartigan v. Eastern Racing Association, Inc., 311
Mass. 368, 370, 41 N.E.2d 28, 30, and cases cited.
We are of opinion that this action was properly submitted to the jury, and the exception of the
defendant to the denial of its motion for a directed verdict must be overruled.
The defendant has argued that it is not responsible for the brutal assault on the plaintiff by
Conkling or the police officers because none of them was acting within the scope of his employment
when they assaulted the plaintiff. There is no merit in this contention. The case of Perras v. Hi- Hat,
Inc., 326 Mass. 78, 93 N.E.2d 219, cited by the defendant, is readily distinguishable. The police
officers there involved in an assault were in no sense employees of the defendant. The *145
question of the use of excessive force did not arise for agency alone was considered. The correct
rule is stated in Fanciullo v. B. G. & S. Theatre Corp., 297 Mass. 44, at pages 46- 47, 8 N.E.2d 174,
at page 176, with cases cited this court said, 'In a place of public amusement where large numbers of
people are accustomed to gather, the maintenance **758 of order may incidentally require the use of
force. * * * A master not infrequently may be liable for conduct of a servant who uses means not
intended or contemplated by the contract of employment.' This rule is recognized in Restatement:
Agency, ' 245, 'A master who authorizes a servant to perform acts which involve the use of force
against persons or things, or which are of such a nature that they are not uncommonly accompanied
by the use of force, is subject to liability for a trespass to such persons or things caused by the
servant's unprivileged use of force exerted for the purpose of accomplishing a result within the scope
of employment.' See Hirst v. Fitchburg & Leominster Street Railway, 196 Mass. 353, 82 N.E. 10;
Mason v. Jacot, 235 Mass. 521, 127 N.E. 331; Frewen v. Page, 238 Mass. 499, 131 N.E. 476, 17
A.L.R. 134; Zygmuntowicz v. American Steel & Wire Co., 240 Mass. 421, 134 N.E. 385; Hartigan
v. Eastern Racing Association, Inc., 311 Mass. 368, 41 N.E.2d 28; McDermott v. W. T. Grant Co.,
313 Mass. 736, 49 N.E.2d 115; Schultz v. Purcell's, Inc., 320 Mass. 579, 70 N.E.2d 526.
* * *
Doody v. John Sexton & Company
411 F.2d 1119 (1st Cir. 1969)
Daniel A. DOODY, Plaintiff, Appellee,
v.
141
JOHN SEXTON & COMPANY, Defendant, Appellant
No. 7233
United States Court of Appeals First Circuit
May 27, 1969.
COFFIN, Circuit Judge.
The defendant, John Sexton & Co., a merchandising company having head offices in
Chicago, and doing business in a number of states, employed plaintiff Doody in its Boston office.
Taking the evidence as it developed in the district court most favorable to the plaintiff, at a
conference in Chicago two of defendant's officers promised plaintiff lifetime employment in
defendant's Los Angeles office if he would move to California. Plaintiff did move, but found
himself out of phase with the manager there, who placed substantially different conditions upon his
employment than, allegedly, he had been promised. When plaintiff complained, one of defendant's
officers told him that he would have to like it or quit. Plaintiff reminded the officer of his Chicago
promise and asked if he had been 'kidding'. The officer replied *1121 in the affirmative. Plaintiff
quit and returned to Boston. There was evidence that his out-of-pocket loss as a result of this
venture was $15,000
Plaintiff's suit in the district court was in three counts. Count 1 was for breach of contract;
Count 2 for the fair value of his services; Count 3 for fraudulent misrepresentation. The court
directed a verdict for the defendant on Count 1 on the ground that the officers had no real or apparent
authority to promise lifetime employment, a decision which plaintiff accepts for this appeal as
correct. It also directed a verdict on Count 2, also without objection by the plaintiff. It refused to
direct on Count 3, and the jury found for the plaintiff in the amount of $15,000. Defendant appeals
The appeal presents only two questions which give us concern. The first is what law governs
the question whether the officers' promise with, as could be found, no intent to perform, was
actionable. This question arises because, allegedly, what, in Massachusetts is regarded as an
actionable misrepresentation of a present intention, [FN1] is not actionable in Illinois. [FN2]
* * *
The remaining question is whether, assuming that defendant cannot be liable in contract for
the unauthorized undertaking of its agents, it can be held liable in tort. Defendant says, with some
appearance of plausibility, that tort liability would be illogical, and merely open the back door when
the front door was closed
We note first, however, that the liability that plaintiff is attempting to impose upon the
defendant is not responsibility for the loss of the contract, but only for the proximate consequences
of the officers' wrongful act. The officers were hiring agents, within limits, and it is common
experience for a principal to be held accountable in tort for unauthorized acts of an agent not too far
removed from the scope of his authority, even though, strictly, they were not authorized. In this case
plaintiff does not need to rely simply on the general principle; there is a Massachusetts case closely
in point. In Robichaud v. Athol Credit Union, 352 Mass. 351, 225 N.E.2d 347 (1967), a
representative of the defendant lender who had authority to deal with such matters, told the borrower
that his loan was covered by life insurance under defendant's group policy. In point of fact the loan
was for 15 years and a Massachusetts statute did not permit insurance on loans over 10. The court
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held defendant liable for misrepresentation (in that case the full amount of the insurance) 'even if
furnishing insurance would have been beyond the defendant's power.' 352 Mass. at 355, 225 N.E.2d
at 350. The only question appeared to be the closeness of the agent's relationship to the act in
question
The defendant's officers in the case at bar were its president and vice president, who clearly
possessed certain hiring powers. We think it could be found that plaintiff had a right to rely on their
representations even though their actual authority did not extend to the point they indicated
We do not consider the remaining points made by defendant concerning the conduct of the
trial. They were either not preserved, or without merit, or both
Affirmed.
Mullen v. Horton
700 A.2d 1377
Appellate Court of Connecticut.
Anne MULLEN
v.
Joseph A. HORTON et al.
Argued Jan. 28, 1997.
Decided Sept. 23, 1997.
Before EDWARD Y. O'CONNELL, C.J., and HEIMAN and SCHALLER, JJ.
HEIMAN, Judge.
The plaintiff appeals from the trial court's rendering of summary judgment in favor of the
defendants. On appeal, the plaintiff claims that the trial court improperly determined that no
genuine issue of material fact exists as to whether the defendants, Missionary Oblates of Mary
Immaculate, Inc., of New Hampshire and Franco-American Oblate Fathers, Inc., (Oblate institutional
defendants) are vicariously liable for the defendant priest's actions under (1) the doctrine of
respondeat superior or (2) the doctrine of apparent authority. [* * *] We agree with the plaintiff and
reverse the judgment of the trial court.
The following facts are necessary for a proper resolution of this appeal. The defendant,
Joseph A. Horton, was a practicing Roman Catholic priest, ordained by and an agent of the Oblate
institutional defendants. Horton was also a practicing psychologist. He maintained an office at the
defendant Center for Individual and Group Therapy, P.C., in Vernon (therapy center). Given
Horton's vow of poverty, he gave all of the profits he derived from his psychology practice to the
Oblate institutional defendants.
In 1988, Horton was assigned weekly priestly duties at Saint Matthew's Church in Tolland,
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where the plaintiff was a parishioner. In August, 1988, the plaintiff sought the professional care and
treatment of Horton for psychological, emotional and marital problems. Specifically, she sought
counseling from Horton because of his joint status as a psychologist and a Roman Catholic priest
associated with her parish.
Horton provided the plaintiff with a combination of pastoral, spiritual and psychological
counseling, including psychological discussions, spiritual advice and prayer. The plaintiff received
counseling from Horton both at his office at the therapy center, and at his office at the Immaculata
Retreat House in Willimantic, a house owned and operated by the Oblate institutional defendants.
Beginning in February, 1989, Horton and the plaintiff began a sexual relationship, with sexual
contact taking place during the counseling sessions. Horton continued to bill the plaintiff and her
insurance company for these counseling sessions in which sexual contact occurred. Sexual contact
between Horton and the plaintiff also occurred at church retreats, sponsored and run by the Oblate
institutional defendants, where Horton was serving as retreat faculty. Horton and the plaintiff's
sexual relations continued for approximately two and one-half years, terminating in February, 1992.
About December 16, 1993, the plaintiff filed a seven count complaint against the defendants.
On October 31, 1994, the Oblate institutional defendants filed a motion for summary judgment,
arguing that there was no genuine issue of material fact as to whether the Oblate institutional
defendants were vicariously liable for Horton's alleged misconduct under either the doctrine of
respondeat superior or the doctrine of apparent authority. Attached to their motion for summary
judgment were three sworn affidavits of Oblate priests, and a portion of the plaintiff's deposition. In
opposition to the motion for summary judgment, the plaintiff filed her sworn affidavit, a portion of
her deposition, and an affidavit of Anne C. Pratt, a licensed Connecticut psychologist. On October
18, 1995, the trial court granted the Oblate institutional defendants' motion for summary judgment.
This appeal follows.
I
The plaintiff first argues that the trial court improperly determined that no genuine issue of
material fact exists as to whether the Oblate institutional defendants are vicariously liable for
Horton's actions under the doctrine of respondeat superior. In response, the Oblate institutional
defendants argue that because the laws of the Roman Catholic Church and the rules of the Oblate
Order expressly prohibit priests from engaging in sexual activity, Horton's alleged sexual
exploitation of the plaintiff could not be within Horton's scope of employment, nor could it be
viewed as a furtherance of the Oblate institutional defendants' business. We agree with the plaintiff.
"We initially note the standard of review of a trial court decision granting a motion for summary
judgment. Practice Book § 384 mandates that summary judgment shall be rendered forthwith if the
pleadings, affidavits and any other proof submitted show that there is no genuine issue as to any
material fact and that the moving party is entitled to judgment as a matter of law. A material fact is
a fact that will make a difference in the result of the case.... The party seeking summary judgment
has the burden of showing the absence of any genuine issue as to all material facts which, under
applicable principles of substantive law, entitle him to a judgment as a matter of law ... and the party
opposing such a motion must provide an evidentiary foundation to demonstrate the existence of a
genuine issue of material fact.... In deciding a motion for summary judgment, the trial court must
144
view the evidence in the light most favorable to the nonmoving party.... The test is whether a party
would be entitled to a directed verdict on the same facts." (Internal quotation marks omitted.)
Budris v. Allstate Ins. Co., 44 Conn.App. 53, 56-57, 686 A.2d 533 (1996). "[A] directed verdict may
be rendered only where, on the evidence viewed in the light most favorable to the nonmovant, the
trier of fact could not reasonably reach any other conclusion than that embodied in the verdict as
directed." (Internal quotation marks omitted.) Miller v. United Technologies Corp., 233 Conn. 732,
752, 660 A.2d 810 (1995).
Thus, in order to prevail on her challenge to the summary judgment, the plaintiff must
provide an evidentiary foundation to demonstrate the existence of a genuine issue of material fact as
to whether the Oblate institutional defendants are vicariously liable for Horton's actions, under the
doctrine of respondeat superior. "Under the doctrine of respondeat superior, [a] master is liable for
the wilful torts of his servant committed within the scope of the servant's employment and in
furtherance of his master's business.... A servant acts within the scope of employment while
engaged in the service of the master, and it is not synonymous with the phrase during the period
covered by his employment.... While a servant may be acting within the scope of his employment
when his conduct is negligent, disobedient and unfaithful ... that does not end the inquiry. Rather,
the vital inquiry in this type of case is whether the servant on the occasion in question was engaged
in a disobedient or unfaithful conducting of the master's business, or was engaged in an
abandonment of the master's business.... Unless [the employee] was actuated at least in part by a
purpose to serve a principal, the principal is not liable." (Citation omitted; internal quotation marks
omitted.) Glucksman v. Walters, 38 Conn.App. 140, 144, 659 A.2d 1217, cert. denied, 235 Conn.
914, 665 A.2d 608 (1995).
"When the servant is doing or attempting to do the very thing which he was directed to do,
the master is liable, though the servant's method of doing it be wholly unauthorized or forbidden. If
the servant's disobedience of instructions will exonerate the master, the proof, easily made, virtually
does away with the maxim of respondeat superior.... That the servant disobeyed the orders of the
master is never a sufficient defense. It must be shown further that he ceased to act for the master
and in the course of his employment." (Citation omitted; internal quotation marks omitted.) Son v.
Hartford Ice Cream Co., 102 Conn. 696, 700-701, 129 A. 778 (1925).
"Ordinarily, it is a question of fact as to whether a wilful tort of the servant has occurred
within the scope of the servant's employment and was done to further the master's business.... But
there are occasional cases where a servant's digression from duty is so clear-cut that the disposition
of the case becomes a matter of law." (Citation omitted; internal quotation marks omitted.) A-G
Foods, Inc. v. Pepperidge Farm, Inc., 216 Conn. 200, 207, 579 A.2d 69 (1990).
Viewing the evidence before it in the light most favorable to the plaintiff, the trial court could
have reasonably found the following. The Oblate institutional defendants employed Horton to give
pastoral counseling to parishioners, in conjunction with his other priestly duties. The Oblate
institutional defendants also employed Horton as a staff psychologist for the annulment tribunal and
at a number of religious retreats sponsored by the Oblate institutional defendants. The Oblate
institutional defendants enabled Horton to counsel both church personnel and the public at large, by
giving him an office in their retreat house. The Oblate institutional defendants benefited from
Horton's pastoral and psychological counseling of their parishioners and clerical personnel. They
145
also benefited monetarily from his clinical psychology practice, because all profits derived from his
practice were given to the Oblate institutional defendants pursuant to his vow of poverty. Thus, a
trier of fact could reasonably find that Horton's pastoral and psychological counseling of the plaintiff
was well within the scope of his employment for the Oblate institutional defendants and was in
furtherance of the Oblate institutional defendants' business.
Horton's alleged sexual exploitation of the plaintiff occurred during his church sanctioned
pastoral-psychological counseling sessions and while he staffed church retreats. Thus, a trier of fact
could reasonably determine that Horton's sexual relationship with the plaintiff was a misguided
attempt at pastoral-psychological counseling, or even an unauthorized, unethical, tortious method of
pastoral counseling, but not an abandonment of church business.
Furthermore, a trier of fact could reasonably find that the sexual relations between Horton
and the plaintiff directly grew out of, and were the immediate and proximate results of, the church
sanctioned counseling sessions. According to the affidavit of the clinical psychologist, Anne Pratt,
sexual relations often mistakenly arise out of an emotional therapeutic relationship. This is known
as the transference-countertransference phenomenon. Pratt further opined in her affidavit that a
transference- countertransference phenomenon arose between the plaintiff and Horton, with the
emotional nature of the therapeutic relationship causing the parties to displace feelings and confuse
the therapeutic relationship with an intimate sexual relationship.
The present case is similar to Glucksman v. Walters, supra, 38 Conn.App. 140, 659 A.2d
1217, and Pelletier v. Bilbiles, 154 Conn. 544, 227 A.2d 251 (1967). In Glucksman v. Walters,
supra, at 142-43, 659 A.2d 1217, a part-time Young Men's Christian Association (YMCA) employee
responded to a foul in a YMCA basketball game by severely assaulting the man who had fouled him.
We concluded that a jury could have reasonably characterized this assault as "a misguided effort" at
maintaining order on the YMCA basketball court and, accordingly, we reversed a directed verdict
holding the YMCA not vicariously liable for the assault on the basis of respondeat superior. Id., at
145-48, 659 A.2d 1217.
In Pelletier v. Bilbiles, supra, 154 Conn. 544, 227 A.2d 251, an employee of a confectionery
store, charged with keeping order in the store, assaulted a customer who had thrown a wrapper on
the floor. Our Supreme Court held that "[t]he beating of an unruly customer ... is an extremely
forceful, although misguided, method of discouraging patrons of the [store] ... from causing
disturbances on the premises in the future. The fact that the specific method a servant employs to
accomplish his master's orders is not authorized does not relieve the master from liability.... Also,
the fact that the battery ... may have been motivated by personal animosity ... does not exonerate the
defendant.... A master does not escape liability merely because his servant loses his temper while he
is conducting the master's business." (Citations omitted.) Id., at 548, 227 A.2d 251.
Here, as in Glucksman and Pelletier, the trier of fact could reasonably have found that
Horton's sexual relations with the plaintiff during their pastoral-psychological counseling sessions,
were a "misguided effort" at psychologically and spiritually counseling the plaintiff, rather than an
abandonment of the counseling. Just as the YMCA employee's assault on the basketball court in
Glucksman, and the employee's assault on the customer who had littered in Pelletier represented
extreme and clearly unauthorized methods of maintaining order and thereby furthering their
146
employers' business, Horton's engaging in sexual contact with the plaintiff during counseling
sessions also could represent an extreme and clearly unauthorized method of spiritually and
emotionally counseling the plaintiff and thereby furthering the church's business. "The fact that the
specific method a servant employs to accomplish his master's orders is not authorized does not
relieve the master from liability." Id., at 548, 227 A.2d 251.
The Oblate institutional defendants argue that this case is governed by Gutierrez v. Thorne,
13 Conn.App. 493, 537 A.2d 527 (1988), Brown v. Housing Authority, 23 Conn.App. 624, 583 A.2d
643 (1990), cert. denied, 217 Conn. 808, 585 A.2d 1233 (1991), A-G Foods, Inc. v. Pepperidge
Farm, Inc., supra, 216 Conn. 200, 579 A.2d 69, and Nutt v. Norwich Roman Catholic Diocese, 921
F.Supp. 66 (D.Conn.1995). We are unpersuaded, however, and conclude that the present case is
distinguishable from these cases.
In Gutierrez v. Thorne, supra, 13 Conn.App. at 496-97, 537 A.2d 527, an employee of the
commissioner of mental retardation was hired to help retarded persons living in the supervised
apartment program with keeping up their apartments, grocery shopping, expense budgeting and
performing other aspects of daily living. The employee entered the retarded plaintiff's apartment
and repeatedly sexually assaulted her. Id. We affirmed a summary judgment in favor of the
employer, the commissioner of mental retardation, holding that "it is clear that [the employee] ... was
engaging in criminal conduct which had no connection to the defendant's business of providing
supervision and training to mentally retarded persons regarding daily living skills. Since there were
no facts before the court from which it could conclude that [the employee] was furthering the
defendant's interests, the defendant's nonliability under a respondeat superior theory was properly
determined as a matter of law." Id., at 499, 537 A.2d 527.
In Gutierrez, unlike here, a trier of fact could not reasonably have determined that the
employee's brutal rape of the retarded plaintiff in her shower was merely a negligent or misguided
attempt at supervising her shopping, cleaning, budgeting and daily living. A trier of fact could not
reasonably have determined that the employee's rape of the retarded plaintiff constituted merely an
extreme, unauthorized and disobedient method of supervising her daily living. Rather, the
employee's brutal sexual assault of the plaintiff was clearly an abandonment of his supervising
duties.
In Brown v. Housing Authority, supra, 23 Conn.App. 624, 583 A.2d 643, a mechanic was
driving his employer's van from one maintenance job to another when the plaintiff asked the
employee to move his van, which was blocking traffic. The employee refused to move the van, and
the plaintiff drove away. The employee then left his job route and followed the plaintiff's car. The
employee found the plaintiff and rear-ended his car several times. The plaintiff got out of his vehicle,
and the employee grabbed a hammer and struck the plaintiff in the chest. Id.
A trier of fact could not reasonably find that the Brown employee's abandonment of his
maintenance mechanic job responsibilities to pursue and assault the plaintiff was a negligent or
misguided effort at maintaining machines, or even an extreme method of traveling from one
maintenance mechanic job to another, because "the employee necessarily abandoned his employer's
business to pursue and attack the plaintiff." Glucksman v. Walters, supra, 38 Conn.App. at 148, 659
A.2d 1217. The employee's "intentional, criminal acts were in no way connected to the defendant's
147
business." Brown v. Housing Authority, supra, 23 Conn.App. at 628, 583 A.2d 643.
The defendants and the dissent rely on A-G Foods, Inc. v. Pepperidge Farm, Inc., supra, 216
Conn. 200, 579 A.2d 69. In that case Pepperidge Farm entered into a consignment agreement with
Anthony Spinelli, granting him an exclusive franchise to distribute Pepperidge Farm bakery products
within a specified geographical area. Id., at 204, 579 A.2d 69. Spinelli began defrauding certain
independent grocery stores by charging the stores for goods he did not deliver. Id. Pepperidge Farm
was unaware of Spinelli's scheme and never received any money as a result of it. Id., at 205, 579
A.2d 69. Spinelli argued that Pepperidge Farm benefited from his fraud because the fraud caused a
larger portion of shelf space to be devoted to Pepperidge Farm bakery products, thereby stimulating
demand and increasing the likelihood of sales. See id., at 207-08, 579 A.2d 69. The Supreme Court
concluded, however, that "any possible indirect benefit Pepperidge Farm might have received by the
increased shelf space was so de minimis that, as a matter of law, it [did] not support a conclusion that
Spinelli acted within the scope of his employment and in furtherance of Pepperidge Farm's
business." Id., at 209, 579 A.2d 69.
A-G Foods, Inc., is distinguishable from the present case. First, Pepperidge Farm did not
benefit monetarily or otherwise from Spinelli's fraudulent scheme. Here, however, the Oblate
institutional defendants did benefit monetarily from Horton's misguided counseling of the plaintiff.
Second, Spinelli's intricate, complicated and well thought out fraud scheme could not reasonably be
characterized as a misguided or negligent attempt at furthering the distribution of Pepperidge Farm
products.
The dissent relies heavily on Nutt v. Norwich Roman Catholic Diocese, supra, 921 F.Supp.
66. First, while a federal District Court opinion is persuasive authority, it is not binding on this
court. More importantly, however, Nutt is factually distinguishable from the present case. In Nutt,
a parish priest showed pornographic movies to two twelve year old altar boys. Id., at 69-70. Then,
during various out-of-town trips, the priest repeatedly sexually molested the two minor boys, for a
period of over six years. Id. The federal District Court granted the Roman Catholic institutional
defendants' motion for summary judgment, holding that they could not be held liable for the
defendant priest's actions under a doctrine of respondeat superior. Id., at 70-71.
While a trier of fact could reasonably find that consensual sexual relations between two
adults arising out of emotional, spiritual church sponsored counseling sessions represented a
negligent and misguided effort at pastoral counseling, a trier of fact could not reasonably find that a
priest's showing pornographic films to young boys and then criminally sexually molesting them in
out-of-town motel rooms merely represented a negligent and misguided effort at pastoral counseling.
The facts of Nutt clearly represent a situation in which the priest wholly abandoned his pastoral
duties. Thus, Nutt represents one of those exceptional cases in which the servant's digression from
duty is so clear cut that the disposition of the case is a matter of law. See A-G Foods, Inc. v.
Pepperidge Farm, Inc., supra, 216 Conn. at 207, 579 A.2d 69.
Therefore, on close examination of the specific facts of this case in light of the relevant case
law, we conclude that whether Horton's actions constituted a negligent, disobedient and unfaithful
conducting of church business or a complete abandonment of church business represents an issue
about which reasonable minds could differ, and thus constitutes a genuine issue of material fact.
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Thus, we conclude that the trial court improperly granted the Oblate institutional defendants' motion
for summary judgment.
II
The plaintiff next argues that the trial court improperly found that no genuine issue of
material fact exists as to whether the Oblate institutional defendants are vicariously liable for
Horton's actions under the doctrine of apparent authority. Specifically, the plaintiff argues that the
Oblate institutional defendants held Horton out to the public as a trustworthy, ethical, respectable
priest-clinical psychologist, and the plaintiff relied on this representation in choosing to go to Horton
for counseling and in trusting and confiding in Horton during the counseling process. Thus, under
the doctrine of apparent authority, the Oblate institutional defendants should be vicariously liable for
Horton's negligent, misguided and unethical behavior during his counseling sessions with the
plaintiff.
In other states, the doctrine of apparent authority has been used to hold a principal, who
represents that another is his servant or agent and thereby causes a third person to rely justifiably on
the care or skill of such agent, vicariously liable for harm caused to the third person by the lack of
care or skill of his servant or agent. See 1 Restatement (Second), Agency § 267, pp. 578-79 (1958);
* * * In Connecticut, however, the doctrine of apparent authority has never been used in such a
manner. Thus, because we are bound by Connecticut precedent; * * * we conclude that the
doctrine of apparent authority is inapplicable to this case.
The judgment is reversed and the case is remanded with direction to deny the motion for
summary judgment and for further proceedings in accordance with this opinion.
In this opinion EDWARD Y. O'CONNELL, C.J., concurred.
SCHALLER, Judge, dissenting.
Although I agree with part II of the majority opinion, I disagree with the conclusion in part I.
I would affirm the trial court's determination that, as a matter of law, the Oblate institutional
defendants are not liable under the doctrine of respondeat superior. When the facts presented by the
parties' affidavits are viewed in their proper context, it is clear that the defendant Joseph A. Horton's
"digression from duty is so clear-cut that the disposition of the case becomes a matter of law."
(Internal quotation marks omitted.) A-G Foods, Inc. v. Pepperidge Farm, Inc., 216 Conn. 200, 207,
579 A.2d 69 (1990).
The facts that the majority recites from the record present a partial image of the situation.
There are, however, other facts and allegations by the plaintiff that are necessary to present a
complete factual picture. Those allegations and facts were before the trial court for summary
judgment purposes. In this regard, it is important to note that the plaintiff acknowledged the
complete incompatibility and inconsistency of Horton's relationship with her vis-a-vis his role as a
priest, by alleging in her complaint: "On several occasions ... Horton told the plaintiff he was going
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to leave the priesthood in order to continue and further their intimate relationship."
In addition, the plaintiff testified at her deposition that starting about March, 1989, and
continuing until early 1992, Horton and the plaintiff had discussions about their getting married and
his having to make a decision to leave the priesthood in order to marry her. In his deposition,
Horton confirmed that the plaintiff had suggested that they get married and never tell anybody about
their being married while he remained a priest, but he said that he could not do it that way. On a
number of occasions, the plaintiff acknowledged that she and Horton engaged in sexual intercourse
on occasions when she invited him into her home. She acknowledged further her active role in their
romantic relationship in testifying that she purchased and provided certain materials for him to use
most of the time when they engaged in sexual intercourse.
The plaintiff further admitted that during all of her relationship with Horton, she understood
that it was clearly outside the scope of any Catholic priest's employment to engage in sexual
relations with anyone. The plaintiff admitted that Horton's engaging in sexual relations with her
was certainly not for the purpose of promoting any of the work of the Catholic Church. She further
recognized that Horton, like every other Catholic priest, was under a vow to abstain from sexual
activity and she had no reason to believe that he had ever been excused or relieved of that obligation
to abstain from sexual activity.
Additional relevant, undisputed facts were presented by the Oblate institutional defendants
pertaining to Horton's activities: (1) At all times, the laws and standards of the Roman Catholic
Church and the Rules of the Oblate Order, as well as each priest's personal commitment to celibacy,
have expressly prohibited each priest member of the Oblate Order from engaging in any sexual
activity of any kind and from seeking or maintaining any personally intimate relationship or marital
relationship with any woman; (2) At all times, any and all attempted or actual sexual activity or
personally intimate relationship or marital relationship, which any priest member of the Oblate Order
may have sought or maintained with any woman during that time frame, would have been clearly
outside the scope of any employment which that person might possibly have held as a Catholic priest
or as a member of the Oblate Order; (3) During the course of the plaintiff's relationship with Horton,
Horton held nonecclesiastical employment as a clinical psychologist that was not related to any
program sponsored or operated by the Oblate Order, and, during that time frame, he was also free
personally to contract to render priestly services for and at local parish churches, which priestly
services were also not related to any program sponsored or operated by the Oblate Order.
These additional facts and admissions by the plaintiff, when considered with the facts recited
in the majority opinion, present a more complete factual picture of the situation and cast doubt on the
majority's characterization of the parties' long-standing intimate relationship as merely "an extreme
and clearly unauthorized method of spiritually and emotionally counselling the plaintiff and thereby
furthering the church's business."
Horton's participation in this consensual relationship, which was even carried on in the
plaintiff's home, and which involved proposals of marriage, with Horton either concealing it and
remaining in the church, or leaving the church entirely, could not reasonably be construed as simply
an errant and misguided method of carrying out his counseling mission. The full factual context
represents a vivid picture of an unrelated, independent, intimate, romantic relationship that both
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parties recognized was far beyond the permissible scope of Horton's priestly role. The fact that the
parties may have met, and the relationship may have commenced, in the course of counseling is not
sufficient to activate the doctrine of respondeat superior with respect to the Oblate institutions from
which Horton concealed his impermissible relationship. Under these facts, Horton's action in
conducting this relationship with the plaintiff represented a complete departure from his
responsibilities to the Oblate institutional defendants. His long-standing, independent relationship
with the plaintiff in no way furthered the interests of his employers. Like the trial court, we should
be extremely hard pressed under these facts to find that the business of the Oblate institutional
defendants was furthered by the activities attributed to Horton.
As the majority acknowledges, "[o]rdinarily, it is a question of fact as to whether a wilful tort
of the servant has occurred within the scope of the servant's employment and was done to further his
master's business.... But there are occasional cases where a servant's digression from duty is so
clear- cut that the disposition of the case becomes a matter of law...." (Citations omitted; internal
quotation marks omitted.) A-G Foods, Inc. v. Pepperidge Farm, Inc., supra, 216 Conn. at 207, 579
A.2d 69. This case is controlled by our Supreme Court's decision in A-G Foods, Inc. Specifically,
in that case the Supreme Court upheld the trial court's determination that "any possible indirect
benefit Pepperidge Farm might have received by the increased shelf space [allocated to Pepperidge
Farm because of Spinelli's overstated sales] was so de minimis that, as a matter of law, it does not
support a conclusion that Spinelli acted within the scope of his employment and in furtherance of
Pepperidge Farm's business." Id., at 209, 579 A.2d 69. Pepperidge Farm benefited basically from
Spinelli's actual sales to A-G Foods. Similarly, even though the Oblate institutional defendants may
have received some monetary benefit from Horton's authorized counseling work, there is no factual
showing that it benefited specifically from the activities associated with the intimate relationship that
Horton carried on with the plaintiff during the same time period as the counseling activity was
occurring. Furthermore, the Supreme Court in A-G Foods, Inc., determined that, even though the
fraudulent transactions took place at the stores and during the hours when Spinelli was engaged in
selling Pepperidge Farm merchandise, that is not sufficient to support the conclusion that he was
acting within the scope of his employment. "Unless Spinelli was actuated at least in part by a
purpose to serve a principal, the principal is not liable." (Internal quotation marks omitted.) Id., at
210, 579 A.2d 69. Similarly, the facts in the present case indicate simply that Horton was motivated
to serve his own interest, not that of the Oblate institutional defendants, whose most fundamental
rules he violated by his conduct, and with full knowledge and acquiescence on the part of the
plaintiff. The situation in A-G Foods, Inc., is directly analogous to the present situation. The
speculation contained in the affidavit of one witness in this case that some sort of transferencecountertransference may have occurred is no more significant a factor than the factor of the
enhanced shelf space that may have resulted from Spinelli's activities.
The majority relies on Glucksman v. Walters, 38 Conn.App. 140, 144, 659 A.2d 1217, cert.
denied, 235 Conn. 914, 665 A.2d 608 (1995), and Pelletier v. Bilbiles, 154 Conn. 544, 547, 227 A.2d
251 (1967), to support its interpretation of Horton's activities as merely misguided and unauthorized
methods of counseling. Those cases are distinguishable. In both cases, the actions complained of
represented an inappropriate and enlarged version of what would have been appropriate activity to
maintain order and prevent disturbances. Neither case is persuasive. Gutierrez v. Thorne, 13
Conn.App. 493, 498-99, 537 A.2d 527 (1988), and Brown v. Housing Authority, 23 Conn.App. 624,
583 A.2d 643 (1990), cert. denied, 217 Conn. 808, 585 A.2d 1233 (1991), on the other hand, support
151
the trial court's decision in this case. In both cases, the improper activity represented a departure
from an appropriate course of conduct.
In the present case, Horton's activity was as much a departure from appropriate counseling
activity as Spinelli's fraudulent sales activity was a departure in A-G Foods, Inc. Moreover, the
decision in Nutt v. Norwich Roman Catholic Diocese, 921 F.Supp. 66 (D.Conn.1995) is highly
persuasive. Horton's alleged actions in engaging in improper sexual activity no more furthered the
interests of the Oblate institutional defendants than did that of the parish priest in Nutt. See also
Tichenor v. Roman Catholic Church of Archdiocese of New Orleans, 32 F.3d 953, 960 (5th
Cir.1994) ("[i]t would be hard to imagine a more difficult argument than that [Horton's] illicit sexual
pursuits were somehow related to his duties as a priest or that they in any way furthered the interests
of ... his employer").
I would affirm the decision of the trial court granting summary judgment in this case.
For the foregoing reasons, I respectfully dissent.
Gizzi v. Texaco
437 F.2d 308 (3rd Cir. 1971)
United States Court of Appeals, Third Circuit.
Augustine GIZZI, Appellant, and Anthony Giaccio
v.
TEXACO, INC., Appellee.
Appeal of Anthony GIACCIO.
Nos. 18976, 18977.
Argued Oct. 27, 1970.
Decided Jan. 20, 1971, Rehearing Denied March 8, 1971.
OPINION OF THE COURT
GERALD McLAUGHLIN, Circuit Judge.
The question posed on this appeal is whether the trial judge properly granted appellee
Texaco's motion for a directed verdict in this personal injury action. Jurisdiction in the district court
was based on diversity of citizenship and requisite amount in controversy.
Appellant Augustine Gizzi was a steady patron of a Texaco service station located on Route
130 and Chestnut *309 Street, Westville, New Jersey. The real estate upon which the station was
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situated was owned by a third party and was leased to the operator of the station, Russell Hinman.
Texaco owned certain pieces of equipment and also supplied the operator with the normal insignia to
indicate that Texaco products were being sold there.
In June of 1965, the station operator, Hinman, interested Gizzi in a 1958 Volkswagen van,
which Hinman offered to put in good working order and sell for $400. Gizzi agreed to make the
purchase and Hinman commenced his work on the vehicle. The work took about two weeks and
included the installation of a new master braking cylinder and a complete examination and testing of
the entire braking system. On June 18, 1965 Gizzi came to the station and paid the $400. He was
given a receipt for the payment and was told that the car would be ready that evening. Gizzi
returned at about six o'clock, accompanied by appellant Anthony Giaccio. They took the van and
then departed for Philadelphia, Pennsylvania, to pick up and deliver some air-conditioning
equipment. While driving on the Schuylkill Expressway, Gizzi attempted to stop the vehicle by
applying the brakes. He discovered that the brakes did not work and, as a result, the vehicle collided
with the rear end of a tractor trailer causing serious injuries to both Gizzi and Giaccio.
Texaco, Inc. was the only defendant named in the complaint and at trial, the testimony was
all directed to the corporation's liability, the court having asked for an offer of proof on that question.
With regard to the sale of this vehicle, no actual agency existed between Texaco and Hinman.
Although most of the negotiations involved in the transaction took place at the Texaco station, the
record indicates that Hinman was selling the van on his own behalf, and not on behalf of Texaco.
Texaco received no portion of the proceeds. The corporation was not designated the seller on the
bill of sale, title to the vehicle being listed in the name of a company located in Atlantic City, New
Jersey. Gizzi did receive a Texaco credit invoice as a receipt for the cash he paid. It would seem
that this was an available convenience utilized by Hinman to record the transaction.
The repair work performed by Hinman was incidental to the sale of the vehicle. He offered
to put the vehicle into good working order to further induce Gizzi to purchase it. Some work was
done on the van after the money had been paid on June 18 and all work on the braking system was
completed prior to that date.
The theory of liability advanced by appellants below was that Texaco had clothed Hinman
with apparent authority to make the necessary repairs and sell the vehicle on its behalf and that Gizzi
reasonably assumed that Texaco would be responsible for any defects, especially defects in those
portions of the van which were repaired or replaced by Hinman. It was further contended that Gizzi
entered into the transaction relying on this apparent authority, thereby creating a situation in which
Texaco was estopped from denying that an agency did in fact exist.
The concepts of apparent authority, and agency by estoppel are closely related. Both depend
on manifestations by the alleged principal to a third person, and reasonable belief by the third person
that the alleged agent is authorized to bind the principal. The manifestations of the principal may be
made directly to the third person, or may be made to the community, by signs or advertising.
Restatement (Second), Agency '' 8, 8B, 27 (1957). In order for the third person to recover against
the principal, he must have relied on the indicia of authority originated by the principal, Bowman v.
Home Life Ins. Co. of America, 260 F.2d 521 (3 Cir. 1958); Restatement (Second), Agency 267 and
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such reliance must have been reasonable under the circumstances. N. Rothenberg & Son, Inc. v.
Nako, 49 N.J.Super. 372, 139 A.2d 783 (App.Div.1958); *310 Hoddeson v. Koos Bros., 47
N.J.Super. 224, 135 A.2d 702 (App.Div.1957); Mattia v. Northern Ins. Co. of New York, 35
N.J.Super. 503, 114 A.2d 582 (App.Div.1955); Elger v. Lindsay, 71 N.J.Super. 82, 176 A.2d 309
(County Court 1961).
In support of their theory of liability, appellants introduced evidence to show that Texaco
exercised control over the activities of the service station in question. They showed that Texaco
insignia and the slogan 'Trust your car to the man who wears the star' were prominently displayed. It
was further established that Texaco engaged in substantial national advertising, the purpose of which
was to convey the impression that Texaco dealers are skilled in automotive servicing, as well as to
promote Texaco products, and that this advertising was not limited to certain services or products.
The record reveals that approximately 30 per cent of the Texaco dealers in the country engage in the
selling of used cars and that this activity is known to and acquiesced in by the corporation. Actually
Texaco had a regional office located directly opposite the service station in question and Texaco
personnel working in this office were aware of the fact that used vehicles were being sold from the
station. It was further established that there were signs displayed indicating that an 'Expert foreign
car mechanic' was on the premises.
Appellant Gizzi testified that he was aware of the advertising engaged in by Texaco and that
it had instilled in him a certain sense of confidence in the corporation and its products.
In granting Texaco's motion for a directed verdict the court stated:
'I am convinced that as a matter of law there could not be any apparent authority on
the basis of what I heard so far or what I have had the slightest glimmer that you
could show, no apparent authority on the part of this operator to bind Texaco in
connection with the sale of this used Volkswagon bus * * *
'In short, nobody could reasonably interpret any of these slogans or representations
or indicia of control as dealing with anything more than the servicing of automobiles,
and to the extent of putting gas in them and the ordinary things that are done at
service stations.
'That 'Trust your car to the man who wears the star' could not possibly be construed
to apply to installing new brake systems or selling used cars.'
We are of the opinion that the court below erred in granting the motion. Questions of
apparent authority are questions of fact and are therefore for the jury to determine. Lind v. Schenley
Industries, Inc., 278 F.2d 79 (3 Cir. 1960); System Investment Corp. v. Montview Acceptance Corp.,
355 F.2d 463 (10 Cir. 1966); Frank Sullivan Co. v. Midwest Sheet Metal Works, 335 F.2d 33 (8 Cir.
1964). On a motion for a directed verdict, and on appeal from the granting of such a motion, all
evidence and testimony must be viewed in a light most favorable to the party against whom such
motion is made and that party is entitled to all reasonable inferences that could be drawn from the
evidence. Continental Ore Co. v. Union Carbide & Carbon Corp., 370 U.S. 690, 82 S.Ct. 1404, 8
L.Ed.2d 777 (1962); Denneny v. Siegel, 407 F.2d 433 (3 Cir. 1969). While the evidence on behalf of
appellants by no means amounted to an overwhelming case of liability, we are of the opinion that
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reasonable men could differ regarding it and that the issue should have been determined by the jury,
after proper instructions from the court.
For the reasons stated herein, the order of the district court will be vacated and the case
remanded for further proceedings consistent with this opinion. We do not pass on the merits of any
other claims advanced on this appeal, but leave them for the consideration of the district court on the
remand.
* * *
Drumond v. Hilton Hotel Corp.
501 F.Supp. 29 (E.D. Pa. 1980)
United States District Court, E. D. Pennsylvania.
James and Verna DRUMMOND
v.
HILTON HOTEL CORPORATION
Civ. A. No. 79-1818.
July 3, 1980.
MEMORANDUM AND ORDER
GILES, District Judge.
Defendant, Hilton Hotel Corporation ("Hilton"), has moved for summary judgment in this
action for damages. Plaintiff, Verna Drummond was injured as the result of a fall in a hotel whose
trade name was the Hilton Inn. Hilton asserts that at no time did it maintain, own, control, or operate
the hotel and that the record owner was the Creative Development Company ("Creative"), a whollyowned subsidiary of the Gebco Investment Corporation ("Gebco"). A written agreement which on
its face is a license/franchise agreement exists between Hilton and Creative. In that document,
Hilton specifically disavows any agency relationship.
Plaintiffs resist Hilton's summary judgment motion asserting the doctrine of apparent agency.
They maintain that Hilton held itself out in such a manner as to lead the general public, including
hotel guests, to believe they were dealing directly with either Hilton or a servant or employee of
Hilton, a hotel corporation of international reputation. Plaintiffs assert that representation of the
hotel as a "Hilton Inn" estops Hilton from denying all possessory duties.
Upon careful examination of the controlling authority in this jurisdiction, this court concludes
that there are material issues of fact presented regarding the existence of both a real and an apparent
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agency relationship between Hilton and Creative. Accordingly, for the reasons set forth below,
Hilton's motion for summary judgment must be denied.
I.
It is well-settled that summary judgment cannot be granted except on a clear showing that no
genuine issue of fact exists. Bryson v. Brand Insulations, Inc., 621 F.2d 556 (3d Cir. 1980); Ely v.
Hall's Motor Transit Co., 590 F.2d 62 (3d Cir. 1978). Hilton maintains that it had no ownership or
control of the hotel at the time of plaintiff's accident.
Plaintiff urges that Hilton should be liable for the alleged negligent acts of Creative based on
the doctrine of apparent authority as set forth in the Restatement of Agency s 267. Plaintiffs,
opposing the instant motion, reference a signed agreement between Hilton and Creative which
purports to be a license and franchise agreement. It has a provision which attempts to deny the
existence of an agency relationship and to disclaim all liabilities incurred on behalf of the hotel.
"Under Pennsylvania law, when an injury is done by an 'independent contractor," the person
employing him is generally not responsible to the person injured." Drexel v. Union Prescription
Centers, Inc., 582 F.2d 781, 785 (3d Cir. 1978), citing Hader v. Coplay Cement Manufacturing Co.,
410 Pa. 139, 150-51, 189 A.2d 271, 277 (1963). "However, when the relationship between the
parties is that of 'master-servant' or 'employer-employee' as distinguished from 'independent
contractor-contractee,' the master or employer is vicariously liable for the servant's or employee's
negligent acts committed within the scope of his employment." Drexel, 582 F.2d at 785, citing
Smalich v. Westfall, 440 Pa. 409, 415, 269 A.2d 476, 481 (1970). The basic inquiry which the
Pennsylvania courts have set forth to determine whether a given person is an employee-servant or an
independent contractor is
*31 whether such person is subject to the alleged employer's control or right to
control with respect to his physical conduct in the performance of the services for
which he was engaged.... The hallmark of an employee-employer relationship is
that the employer not only controls the result of the work but has the right to
direct the manner in which the work shall be accomplished; the hallmark of an
independent contractee-contractor relationship is that the person engaged in the
work has the exclusive control of the manner of performing it, being responsible
only for the result.
Drexel, 582 F.2d at 785, quoting Green v. Independent Oil Co., 414 Pa. 477, 483-84, 201 A.2d 207,
210 (1964). "Actual control over the manner of work is not essential; rather, it is the right to control
which is determinative." Drexel, 582 F.2d at 785, citing Coleman v. Board of Education, 477 Pa.
414, 421-22, 383 A.2d 1275, 1279 (1978).
In Drexel, the Third Circuit observed that difficulties exist where the parties occupy the
status of franchisor and franchisee. The mere existence of a franchise relationship does not
necessarily trigger a finding of a master- servant relationship, nor does it automatically insulate the
parties from such a relationship. Whether the control retained by the franchisor is also sufficient to
establish a master-servant relationship depends in each case upon the nature and extent of such
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control as defined in the franchise agreement or by the actual practice of the parties. Drexel, 582
F.2d at 786. In Drexel, the defendant occupied the status of franchisor by virtue of a signed
agreement. Although the franchise bore the name of the defendant, it denied all ownership and
control and thus all liability for any negligence on the part of the franchisee. Notwithstanding a
written provision in the agreement which stated that the liability of the defendant was strictly
limited, the court concluded that other clauses in the agreement could be construed as reserving to
the defendant the right to control certain facets of the franchise. For example, there were clauses
requiring the franchisee to operate under the name of the defendant/franchisor, granting the
defendant the right of inspection, and requiring that the franchise operate as part of a national
organization securing its strength through adherence to defendant's "uniformly high standards of
service, appearance, quality of equipment, and proved methods of operation." Id. 787. Such clauses
prompted the court to state that it could not hold as a matter of law that a master-servant relationship
did not exist.
In the agreement between Hilton and Creative, Hilton has the right to consult with Creative
on operating problems concerning the hotel, the right to inspect the hotel to maintain the standards of
the Hilton system. Creative is required to feature Hilton's name in all advertising and promotional
material. The agreement does have a clause limiting Hilton's liability. Yet, as stated in Drexel, the
mere fact that there is express denial of the existence of an agency relationship is not in itself
determinative of the matter. Id. 786. Since such a denial of agency is not sufficient to relieve Hilton
of all possible liability as a matter of law, the issue of Hilton's right to control any operations of the
hotel is an issue for jury determination.
II.
Plaintiff's contention that Hilton should be liable for the alleged negligent acts of Creative,
irrespective of an actual agency relationship, is based on the doctrine of apparent agency as set forth
by the Restatement (Second) of Agency s 267 (1975), which provides as follows:
One who represents that another is his servant or other agent and thereby causes a
third person justifiably to rely upon the care or skill of such apparent agent is
subject to liability to the third person for harm caused by the lack of care or skill
of the one appearing to be a servant or other agent as if he were such.
Accord, Restatement of Agency s 267.
Plaintiffs cite Taylor v. Costa Lines, Inc., 441 F.Supp. 783 (E.D.Pa.1977), for the proposition
that Pennsylvania law would adopt *32 this section of the Restatement. Hilton asserts that the
Pennsylvania courts have traditionally rejected the application of this principle to tort actions. [FN1]
The Third Circuit in Drexel agreed with the decision of the trial court in Taylor, and concluded that
the Supreme Court of Pennsylvania would adopt s 267 or some similar principle of apparent agency.
Drexel, 582 F2d at 791-94. Hilton could therefore be liable under this doctrine if the plaintiff makes
a showing that Hilton represented Creative to be its servant and that plaintiff justifiably relied on
such representation.
FN1. Hilton cites Janeczko v. Manheimer, 77 F.2d 205 (7th Cir. 1935) and Trautwein v.
Loeb, 19 Pa.D. & C. 394 (Phila.Co.1933). These cases were specifically distinguished in
Drexel, 582 F.2d at 791 n.14.
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In Gizzi v. Texaco, Inc., 437 F.2d 308 (3d Cir.) (applying New Jersey law), cert. denied, 404
U.S. 829, 92 S.Ct. 65, 30 L.Ed.2d 57 (1971) while citing s 267, the court concluded that a question
of apparent authority existed where a gas station was neither owned nor operated by Texaco but
prominently displayed the Texaco insignia and slogan and where Texaco had engaged in national
advertising, the effect of which could be found to instill confidence in Texaco gas stations. In
Drexel, the Court also concluded that there were sufficient indicia of authority to raise questions of
fact as to whether the elements of apparent agency had been established. Among these indicia were
provisions in the franchise agreement which required the franchisee to use the name of the
defendant/franchisor in all promotional and advertising materials. 582 F.2d at 795-96
In the instant case, plaintiffs reference to provisions in the license/franchise agreement
between Hilton and Creative which require Creative to "disclose in all dealings with suppliers and
persons, other than guests, that it is an independent entity and that Licensor (Hilton) has no liability
for debts," and "Feature in the Hotel operation, in the guest rooms, public rooms and other public
areas of the Hotel, and on the various articles therein as specified in the Operating Manual and in
advertising and promotional material, the name 'Hilton' "
Therefore, this court concludes that whether Hilton held itself out to the public as the owner
or operator of the Hilton Inn is a proper issue of fact for determination by a jury.
Ramos v. Preferred Medical
842 So.2d 1006
District Court of Appeal of Florida,
Third District.
Angel R. RAMOS and Celina R. Ramos, individually and for an on behalf
of their son, Angel Ramos, Jr., a minor, Appellants,
v.
PREFERRED MEDICAL PLAN, INC., Appellee.
April 16, 2003.
Before SCHWARTZ, C.J., and COPE and WELLS, JJ.
COPE, J.
Angel and Celina Ramos appeal an adverse summary judgment in a medical malpractice
case. We conclude that there are disputed issues of material fact on the issue of apparent agency,
and remand for further proceedings.
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I.
Plaintiffs-appellants Angel and Celina Ramos are members of Preferred Medical Plan, Inc., a
health maintenance organization ("HMO"). Preferred enters into contracts with physicians to
provide medical services to its members. As between Preferred and contracting physicians, the
physicians are independent contractors.
Preferred's members must obtain medical services from physicians with whom Preferred has
contracted. From Preferred's approved list, the plaintiffs selected Dr. Gregory Fox as their primary
care physician.
The plaintiffs consulted Dr. Fox regarding the medical condition of their minor son, who
suffered from gynecomastia. Dr. Fox referred the plaintiffs to Dr. Ignacio Fleites, a participating
general surgeon, who is the chief of surgery at Westchester General Hospital. Dr. Fleites performed
the surgery, and was paid by Preferred for the operation. There was a $400 co- payment for the
surgery, which the plaintiffs paid to Preferred.
The plaintiffs brought suit against Dr. Fleites, Preferred, and Westchester General Hospital.
They alleged that removal of the excess breast material associated with gynocomastia had been
improperly performed, leaving scarring and a depression in the chest area.
So far as pertinent here, the plaintiffs alleged that Dr. Fleites was the apparent agent of
Preferred. The trial court entered summary judgment in favor of Preferred, and the plaintiffs have
appealed. [FN1]
FN1. Settlements were reached with the other defendants.
While this case was pending on appeal, the Florida Supreme Court announced its decision in
Villazon v. Prudential Health Care Plan, Inc., 843 So.2d 842, 2003 WL 1561528 (Fla. March 27,
2003). The trial court did not have the benefit of this decision at the time it entered summary
judgment, and the newly announced Villazon opinion requires reversal for further proceedings.
In Villazon, as here, an HMO entered into contracts with independent contractor physicians
under which the physicians agreed to provide medical services to HMO members. The Florida
Supreme Court ruled that an HMO can be held vicariously liable for the acts of an independent
contractor physician if the physician is acting either (a) as the actual agent or (b) as the apparent
agent of the HMO. Id. 843 So.2d at 850-51.
The present case involves only a claim of apparent agency, not a claim of actual agency. The
plaintiffs assert that Dr. Fleites was the apparent agent of Preferred.
The Illinois Supreme Court has discussed the issue of apparent agency at length in Petrovich
v. Share Health Plan of Illinois, Inc., 188 Ill.2d 17, 241 Ill.Dec. 627, 719 N.E.2d 756 (1999). We
find the reasoning of that decision helpful here. The Petrovich decision states in part:
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Because HMOs may differ in their structures and the cost-containment practices that they employ,
a court must discern the nature of the organization before it, where relevant to the issues. As
earlier noted, Share is organized as an independent practice association (IPA)-model HMO. IPAmodel HMOs are financing entities that arrange and pay for health care by contracting with
independent medical groups and practitioners.
This court has never addressed a question of whether an HMO may be held liable for medical
malpractice.... Courts ... should not be hesitant to apply well-settled legal theories of liability to
HMOs where the facts so warrant and where justice so requires.
....
As a general rule, no vicarious liability exists for the actions of independent contractors. Vicarious
liability may nevertheless be imposed for the actions of independent contractors where an agency
relationship is established under either the doctrine of apparent authority or the doctrine of implied
authority.
....
We now hold that the apparent authority doctrine may ... be used to impose vicarious liability on
HMOs.... Courts in other jurisdictions have likewise concluded that HMOs are subject to this form
of vicarious liability....
To establish apparent authority against an HMO for physician malpractice, the patient must prove
(1) that the HMO held itself out as the provider of health care, without informing the patient that
the care is given by independent contractors, and (2) that the patient justifiably relied upon the
conduct of the HMO by looking to the HMO to provide health care services rather than to a
specific physician. Apparent agency is a question of fact.
A. Holding Out
The element of "holding out" means that the HMO, or its agent, acted in a manner that would lead
a reasonable person to conclude that the physician who was alleged to be negligent was an agent or
employee of the HMO. Where the acts of the agent create the appearance of authority, a plaintiff
must also prove that the HMO had knowledge of and acquiesced in those acts. Significantly, the
holding-out element does not require the HMO to make an express representation that the
physician alleged to be negligent is its agent or employee. Rather, this element is met where the
HMO holds itself out as the provider of health care without informing the patient that the
care is given by independent contractors. Vicarious liability under the apparent authority
doctrine will not attach, however, if the patient knew or should have known that the
physician providing treatment is an independent contractor.
....
A plaintiff must also prove the element of "justifiable reliance" to establish apparent authority
against an HMO for physician malpractice. This means that the plaintiff acted in reliance upon the
conduct of the HMO or its agent, consistent with ordinary care and prudence.
The element of justifiable reliance is met where the plaintiff relies upon the HMO to provide
health care services, and does not rely upon a specific physician. This element is not met if the
plaintiff selects his or her own personal physician and merely looks to the HMO as a conduit
through which the plaintiff receives medical care.
Id. at 763-68 (emphasis added; citations omitted).
Florida's law of apparent agency is substantially identical to that expressed in the Illinois
160
decision, except that in Florida the test for apparent agency has been stated as a three-part test where
Illinois uses a two- part test. Under Florida law there is
a three-prong test under general agency law in order to determine the existence of apparent agency:
first, whether there was a representation by the principal; second, whether a third party relied on
that representation; and, finally, whether the third party changed position in reliance upon the
representation and suffered detriment.
Almerico v. RLI Ins. Co., 716 So.2d 774, 777 (Fla.1998) (citations omitted); see also Villazon, 843
So.2d at 851-52 (Fla.2003).
III.
We conclude that disputed issues of material fact remain regarding the issue of apparent
agency. Under Petrovich, the first question is whether "The HMO holds itself out as the provider of
health care without informing the patient that the care is given by independent contractors." 241
Ill.Dec. 627, 719 N.E.2d at 766.
Preferred's own promotional literature indicates that it operates several full-service medical
centers. (R. 881). "All of your medical care will be coordinated through the medical center that you
originally chose on your application. This procedure will enable your primary physician to maintain
a master medical record for you in order to ensure the continuity and quality of care that you should
have as a member of Preferred Medical Plan." (R. 882). The member information includes, "You
MUST see your Primary Care Physician in order to be treated. If it is necessary for you to see a
specialist, it will be arranged for you. You CANNOT go on your own to a specialist without a
written referral from your Primary Care Doctor." (R. 885).
Consistent with these policies, the plaintiffs consulted the primary care physician, Dr. Fox,
who made the referral to Dr. Fleites. Under Preferred's rules, Dr. Fox could only refer the plaintiffs
to a surgeon who was one of Preferred's participating providers. Preferred paid Dr. Fleites the fee
for the surgery. The plaintiffs paid the $400 co-payment to Preferred.
As outlined in the Petrovich decision, the foregoing facts would lead a reasonable person to
conclude that Preferred had undertaken to be the provider of health care services and that Dr. Fleites
was acting on its behalf.
The Petrovich decision also holds, however, that "[v]icarious liability under the apparent
authority doctrine will not attach ... if the patient knew or should have known that the physician
providing treatment is an independent contractor." Petrovich, 241 Ill.Dec. at 637, 719 N.E.2d 756.
The file contains a copy of the Preferred's Individual Medical and Hospital Services Contract.
It provides in part, "The relationship between Health Plan and Participating Providers that are not
Health Plan employees is an independent contractor relationship. Such Participating Providers are
not agents or employees of Health Plan, nor is Health Plan, or any employee of Health Plan, an agent
or employee of any such Participating Provider." As an initial matter, Preferred markets its services
in English and Spanish. The promotional material quoted earlier is made available to subscribers in
161
both languages. The plaintiffs are Spanish speaking. The Individual Medical and Hospital Services
Contract is found in this record in the English language only.
Leaving aside the language issue, the contractual provision just quoted is, in any event, not
clear enough to dispose of the apparent agency issue. The contract indicates that those persons who
are not Health Plan employees are independent contractors. The contractual provision does not
advise the subscriber who is an employee and who is not.
Preferred points to the medical consent form signed by Mrs. Ramos prior to the surgery,
which was performed at Westchester Hospital. The medical consent form included, "I acknowledge
that all physicians and surgeons furnishing services, including all radiologists, pathologists,
anesthesiologists and emergency room physicians, are independent contractors and are not
employees or agents of the hospital." Mrs. Ramos is Spanish speaking. She testified that this part of
the consent form was not translated for her, while other parts were. Thus, this form is not dispositive
of the issue.
Preferred correctly states that the contract between Preferred and Dr. Fleites describes Dr.
Fleites as an independent contractor. While that is true, it is not dispositive on the issue of apparent
agency. For apparent agency purposes, the question is what the plaintiffs knew or reasonably should
have known. There is no indication that the plaintiffs ever saw the contract between Preferred and
Dr. Fleites or had any reason to know of its contents.
The next question for purposes of the apparent agency analysis is reliance. As explained in
Petrovich, this element is met "where the plaintiff relies on the HMO to provide health care services,
and does not rely upon a specific physician. This element is not met if the plaintiff selects his or her
own personal physician and merely looks to the HMO as a conduit through which the plaintiff
receives medical care." 241 Ill.Dec. 627, 719 N.E.2d at 768.
The summary judgment record indicates that the plaintiffs met this part of the test. The
plaintiffs chose their primary care physician from Preferred's list. That physician, Dr. Fox, referred
the plaintiffs to Dr. Fleites, the surgeon on Preferred's approved list. As stated in the instructions
Preferred gives its patients, "If it is necessary for you to see a specialist, it will be arranged for you."
(R. 885).
The final question is whether there was a change of position and detrimental reliance. Again,
this element is met. The operation was performed on the minor child. For purposes of this summary
judgment, the plaintiffs' factual claims of bad result and physical injury are accepted as true.
For the stated reasons, the summary judgment is reversed and the cause remanded for further
proceedings.
Partnership & Other Entities
162
Trans-America Construction v. Comerica Bank
2003 WL 698416 (Mich.App.)
UNPUBLISHED OPINION. CHECK COURT RULES BEFORE CITING.
Court of Appeals of Michigan.
TRANS-AMERICA CONSTRUCTION COMPANY, Plaintiff-Appellant,
v.
COMERICA BANK, Defendant-Appellee,
and
Yvonne WALLER-JORDAN, d/b/a C.A. Waller & Associates, Lemuel A. Waller, d/b/a
L.W. Services, Marcus R. Waller, Marcmond Builders, Deanna P. Waller, d/b/a
Preferred Building Contractors, Defendants/Cross-Defendants,
and
BANK ONE MICHIGAN, Defendant,
and
SAMI, INC., Defendant/Cross-Plaintiff/Cross-Defendant,
and
NATIONAL CITY BANK OF MICHIGAN/ILLINOIS, Defendant/Cross-Plaintiff.
Feb. 28, 2003.
Before: KELLY, P.J. and WHITE and HOEKSTRA, JJ.
[UNPUBLISHED]
PER CURIAM.
Plaintiff appeals as of right the trial court's order granting defendant Comerica Bank's
(hereinafter "defendant") motion for summary disposition. We affirm. This appeal is being decided
without oral argument pursuant to MCR 7.214(E).
I. Basic Facts and Procedural History
Plaintiff, a licensed builder but not a licensed lender, had a longstanding business relationship
with Lemuel A. Waller, d/b/a L.W. Services, a building contractor. Plaintiff frequently furnished
working capital to Waller to allow Waller to complete insurance repair projects.
In 1997, plaintiff provided monies to Waller to make insurance repairs to a home owned by
Florence Bell and Earnest Bell. Plaintiff and Waller agreed that in addition to repaying the monies
advanced, Waller would pay plaintiff fifty- percent of any profits on the project. If no profits
materialized, plaintiff would receive only those funds it supplied to Waller. The parties did not
execute a written agreement. Florence Bell executed a form letter requesting that the Bells' insurer,
Michigan Basic Insurance Company, include Waller and plaintiff as payees on benefit checks.
Plaintiff issued checks to Waller totaling $22,252.
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Plaintiff later learned that Michigan Basic had issued three checks totaling $83,433.06 in
connection with the Bell project. A signature purporting to be that of Pjeter Stanaj, plaintiff's
president, appeared on the checks. Waller had cashed the checks without plaintiff's knowledge.
Plaintiff filed suit alleging that defendant converted its property by improperly negotiating
two of the three checks issued by Michigan Basic for the reason that the signature of Pjeter Stanaj
was fraudulent. [FN1] Defendant moved for summary disposition pursuant to MCR 2.116(C)(10).
Defendant argued that the undisputed evidence showed that plaintiff and Waller formed a
partnership, and that because partners have the implied authority to endorse checks on behalf of the
partnership, it could not be held liable for negotiating the checks. Defendant also argued that if
plaintiff was merely a lender, its agreement with Waller was usurious, illegal, and unenforceable. In
response, plaintiff argued that the evidence showed that it merely loaned funds to Waller, and that it
was not Waller's partner.
FN1. Plaintiff also named as defendants other financial institutions, a party store that cashed
checks on which it was named as a payee, individual members of the Waller family,
including Lemuel Waller, and their business entities. The claims against these defendants, as
well as cross- claims filed by various parties, were dismissed or resolved by entry of
judgment, and are not relevant to the issue on appeal.
The trial court granted defendant's motion, finding that the undisputed evidence, and in
particular the statements made by Stanaj, established that plaintiff and Waller were partners. The
trial court did not address defendant's argument that plaintiff's agreement with Waller was usurious
and unenforceable.
II. Analysis
Plaintiff argues that the trial court erred by granting defendant's motion for summary
disposition. We disagree and affirm. We review a trial court's decision on a motion for summary
disposition de novo. Auto Club Group Ins Co v. Burchell, 249 Mich.App 468, 479; 642 NW2d 406
(2001).
A partnership is defined as "an association of 2 or more persons, which may consist of
husband and wife, to carry on as co-owners a business for profit." MCL 449.6. If parties associate
themselves in such a way as to carry on a business for profit they will be deemed to have formed a
partnership, regardless of their subjective intentions. Byker v. Mannes, 465 Mich. 637, 645-646; 641
NW2d 210 (2002). The burden of proof is on the party seeking to establish the existence of a
partnership, Brown v. Frankenmuth Mut Ins Co, 187 Mich.App 375, 381; 468 NW2d 243 (1991),
and the existence of a partnership is a question of fact. LeZontier v. Shock, 78 Mich.App 324, 333;
260 NW2d 85 (1977).
Here, the undisputed evidence showed that, as they had done in other cases, plaintiff and
Waller agreed to share equally in profits from the Bell project. A party's receipt of profits from a
business is prima facie evidence that the party is a partner in the business. MCL 449.7. However, an
agreement to share losses is not listed as a factor that must be considered in determining whether a
164
partnership exists. MCL 449.7.
Furthermore, no evidence supported plaintiff's assertion that it merely acted as a lender.
Plaintiff was not licensed as a lender as required by M.C.L. § 493.1. The parties did not sign a note
or any document memorializing the transaction. Plaintiff did not charge Waller a fixed rate of
interest. The amount of any profit to be gained by plaintiff depended solely on the success of the Bell
project. Plaintiff did not obtain any collateral for the funds it advanced to Waller. The form letter
signed by Florence Bell requesting that plaintiff and Waller be named payees on benefit checks
issued by Michigan Basic did not constitute a security agreement between plaintiff and Waller. See
M.C.L. § 440.9203. Stanaj testified that the funds advanced to Waller were treated as a business
expense on plaintiff's tax return. Typically, a lender considers a loan to be a business asset. The trial
court correctly found that the undisputed evidence showed that plaintiff and Waller formed a
partnership. Byker, supra.
Each partner in a partnership is an agent of the partnership. The act of every partner for
carrying on the usual business of the partnership binds the partnership, unless the partner in fact has
no authority to act in the particular matter and the person with whom the partner is dealing is aware
that the partner lacks authority. MCL 449.9(1). A partner who signs an agreement in his name in the
context of representing the partnership binds the partnership. Omnicom of Michigan v. Giannetti
Investment Co, 221 Mich.App 341, 345-346; 561 NW2d 138 (1997). Given that plaintiff and Waller
formed a partnership, Waller was entitled to sign Stanaj's name on the checks from Michigan Basic.
Defendant could not be liable for conversion of the checks under the circumstances. See M.C.L. §
440.3420. The trial court did not err in granting summary disposition. [* * *]
Affirmed.
WHITE, J. (dissenting).
I respectfully dissent. The circuit court erred in concluding that there were no genuine issues
of material fact regarding whether a partnership existed between plaintiff and Waller with respect to
the Bell project. Stanaj's affidavit was sufficient to create a genuine issue whether the relationship
was a partnership or that of lender and borrower. Stanaj described the lender- borrower relationship
and asserted that plaintiff had no involvement in the administration and control of the Bell job, and
that the one-half share of the profit was to serve as interest on the loan.
MCL 449.7 provides:
*3 In determining whether a partnership exists, these rules shall apply:
***
(4) The receipt by a person of a share of the profits of a business is prima facie evidence that he is
a partner in the business, but no such inference shall be drawn if such profits were received in
payment:
***
165
(d) As interest on a loan, though the amount of payment vary with the profits of the business,
***
Where profits are paid as interest on a loan, the payment does not support the inference of a
partnership relationship. Further, even where the inference is applicable, the receipt of profits is only
prima facie evidence of a partnership, and is not conclusive. See Lobato v. Paulino, 304 Mich. 668,
675-676; 8 NW2d 873 (1943). The intent of the parties controls. Here, Stanaj's affidavit created a
genuine issue whether the parties to the transaction intended the Bell project to be a joint enterprise
or intended to assume a lender-borrower relationship.
I would reverse and remand for further proceedings.
H20’C Ltd v. Brazos
114 S.W.3d 397
Missouri Court of Appeals,
Western District.
H20'C LTD and John T. O'Connor, Appellants,
v.
Blaise BRAZOS, Respondent.
Aug. 12, 2003.
Rehearing Denied Sept. 30, 2003.
Before ELLIS, C.J., LOWENSTEIN and HOLLIGER, JJ.
HAROLD L. LOWENSTEIN, Judge.
John T. O'Connor and H2O'C, Ltd. (collectively Appellants) appeal from the trial court's
judgment in favor of Blaise Brazos on Count I through IV of Brazos' Counterclaim against
Appellants. [* * *] The respondent's counterclaim prayed for and the trial court declared the
existence of a partnership between the parties.
OVERVIEW OF THE CASE
A brief overview and explanation of the underlying case, and the procedural snarl generated
in getting to this point of the appeal is in order. Suffice it to say that deciding a fairly simple
question has devolved into a lengthy quagmire and will necessarily require extended discussion. At
166
the heart of this lawsuit is this issue: Did an ongoing and extended business relationship between
two scientists who together preformed consulting work on wastewater treatment projects, without
benefit of any written agreement, adequately support a judgment declaring a partnership? The actual
period of the business relationship (1993-97) lasted less time than it has taken to attempt to
determine ownership of limited personal property and division of expenses and profits (suit was filed
in March 1997 by one party to replevin assets, a counterclaim filed by the other to declare a
partnership existed, wrangling over pre-trial and discovery motions, numerous continuances, a
dismissal for failure to prosecute, and several prior appeals which suffered from finality problems,
the case was finally argued here over five years later.)
John O'Connor and the corporation H2O'C of which he and his wife are the sole shareholders
instituted suit in 1997 to replevin a microscope and other personal property with a total value of
$7,061 plus business documents from Blaise Brazos who was described as "formerly an employee
and later an independent contractor" of the plaintiffs. In 1999 Brazos filed this five count
counterclaim against the plaintiffs which included a claim that the relationship between the parties,
"... was and is a partnership in fact" under the Uniform Partnership Act adopted in Missouri.
FACTUAL AND PROCEDURAL HISTORY
O'Connor and Brazos began their association in the late 1970's or early 1980's when Brazos
worked in O'Connor's lab at the University of Missouri-Columbia. O'Connor was then chairman of
the department of engineering. Over the next several years, O'Connor employed Brazos to work on
externally funded research projects at the university on an as-needed basis. In 1993, O'Connor and
Brazos began conducting drinking water analysis for profit. In an initial project, O'Connor and
Brazos were paid directly and individually. In October of 1993, O'Connor incorporated H2O'C Ltd.
as a Missouri corporation with himself and his wife as the only shareholders. The corporation was
formed by O'Connor to handle the money received from the consulting projects and for tax purposes.
Until their business relationship ended in March 1997, O'Connor and Brazos provided consulting
services on several projects, including a five-year project with Premium Standard Farms that Brazos
brought in as a client to H2O'C.
O'Connor was primarily responsible for preparing the project budget with some input from
Brazos, negotiating the contract, and preparing reports once the projects began. Brazos did the lab
and fieldwork and provided assistance on the reports and papers that were written. During this time,
no partnership agreement was signed and no partnership tax returns were filed. During their
association, both Brazos and O'Connor were consulting and receiving compensation on projects that
were not a part of H2O'C. From 1993 through 1996, Brazos filed his individual income tax returns
listing his occupation as a sole proprietor consultant.
At trial, Brazos testified that he and O'Connor had agreed to split the revenues equally. He
also said "He told me I was a partner; he allowed me to act like a partner; he encouraged me to act
like a partner. I'm a partner." Further, he presented at trial the testimony of two individuals who
stated that the relationship was characterized as a partnership. The first was an associate professor at
the University of Missouri-Columbia who testified that at a surplus auction, which he attended as
well as O'Connor and Brazos, he believed that O'Connor used the word "partner" in referring to his
association with Brazos. The second individual, another professor from the university and the one
167
responsible for sending the Premium Standard Farms project to Brazos, testified that he heard
O'Connor state that there was a partnership between O'Connor and Brazos. Brazos also presented
evidence of a "Superior Technology Demonstration--Evaluation of Alternative Treatment
Technologies" report, which provided short biographies for O'Connor and Brazos and stated that
"[t]ogether, they constitute H2O'C." In addition, Brazos offered a letter written by O'Connor in
which O'Connor said he was worried about Brazos purchasing a $40,000 microscope. In the letter,
O'Connor stated "I've been fretting about your microscope dilemma all night. So, I thought I would
write as both friend and business partner to share my thoughts." Brazos ultimately purchased the
microscope with his own funds. Brazos' business cards identified him as a "Drinking Water
Microbiologist." And, a paper published in Public Works Magazine, identified O'Connor as the
principal of H2O'C and Brazos as a drinking water microbiologist with H2O'C.
The relationship between Brazos and O'Connor began deteriorating about the time O'Connor
brought his son into the business. At that point, Brazos stated that his amount of compensation,
specifically from the Premium Standard Farms project, was being reduced from that which they had
agreed. Brazos testified that in July before the end of their association he confronted O'Connor and
asked, "Are we in a partnership or not?" He stated that he felt like O'Connor's son had "veto power
over" him. Again in January 1997, they had another conversation in which Brazos asked O'Connor,
"What is our business arrangement?" After consulting with his brother, who is a CPA, Brazos began
trying "to separate along financial lines." When the separation was complete, Brazos filed for
unemployment. [FN2] The Division of Employment Security determined that he was not qualified
for benefits because he left work voluntarily without good cause attributable to the work or the
employer.
FN2. It is unclear from the record exactly when Brazos filed for unemployment benefits.
The Division's denial was dated March 1997.
Following the end of their business relationship in March 1997, Appellants filed a petition
(later amended) in replevin requesting the return of certain items in Brazos' possession. In January
1998, Brazos filed his Answer to the First Amended Petition. [FN3] On January 13, 1998, the trial
court entered an order in which it found that Appellants were entitled to the right of possession of the
items, evidently those that were the subject of Appellant's petition. This order is not contained in the
record, only a transcript of the hearing.
FN3. While the docket entry does not designate this as an Answer and a Counterclaim, this
court can only assume that the allegations of the later Counterclaim (which serves as the
basis for the judgment) were originally asserted in this document.
Brazos then filed a First Amended Answer and Counterclaim requesting a determination of a
partnership and distribution of assets. Specifically, Count I requested that the court determine that a
partnership existed. Count II requested an accounting of the partnership, if one was found. Count
III sought damages relating to the storage of O'Connor's personal belongings, one-half of the gross
revenues, and one-half the value of the partnership property. Count IV requested damages for the
conversion of personal property. Count V alleged misrepresentation and sought damages for the loss
of opportunity to participate in profits. * * *
168
After numerous continuances and the case being placed on the dismissal docket for failure to
prosecute, a bench trial was held on May 1-2, 2001. The trial court issued findings of fact,
conclusions of law and judgment. * * * On July 25, 2002, the judgment was filed. In that
judgment, the trial court found that a partnership did exist and that O'Connor and Brazos had agreed
to split gross profits "50-50." The court's judgment in favor of Brazos on Counts I through IV,
awarded damages in the amount of $55,036.81 plus interest representing Brazos partnership interest
and $300.00 in damages for conversion of his personal property. The trial court entered judgment in
favor of Appellants on Count V, loss of business opportunity, having concluded that this claim was
abandoned at trial. This third appeal is addressed.
*
*
*
STANDARD OF REVIEW
This court's review of a case tried without a jury is governed by the principles of Murphy v.
Carron, 536 S.W.2d 30 (Mo. banc 1976). This court will affirm the judgment of the trial court
unless there is no substantial evidence to support it, it is against the weight of the evidence, or it
erroneously declares or applies the law. Id. at 32; Fischer v. Brancato, 937 S.W.2d 379, 380
(Mo.App.1996). An appellate court "reviews the evidence in the light most favorable to the
prevailing party, giving it the benefit of all reasonable inferences and disregarding the other party's
evidence except as it supports the judgment." Meyer v. Lofgren, 949 S.W.2d 80, 82 (Mo.App.1997).
This court defers to the trial court in determining the credibility of witnesses. See id.
ARGUMENT
In their first point on appeal, Appellants assert that the trial court erred in finding that a
partnership existed. They say that Brazos failed to prove the existence of a partnership by clear,
convincing and cogent evidence.
In Meyer v. Lofgren, 949 S.W.2d 80 (Mo.App.1997), this court addressed the statutory and
judicial definitions of partnership:
A partnership is statutorily defined as "an association of two or more persons to carry on as coowners a business for profit." § 358.060.1.... A partnership has been judicially defined as a
contract of two or more competent persons to place their money, effects, labor and skill, or some
or all of them, in lawful commerce or business and to divide the profits and bear the loss in certain
proportions. The partnership agreement need not be written but may be expressed orally or
implied from the acts and conduct of the parties ..., with the intent of the parties serving as the
primary criterion for determining whether such a relationship exists.
Id. (internal quotations and citations omitted). The intent necessary to find a partnership is not the
intent to form a partnership, but the intent to enter a relationship that legally constitutes a
partnership. Id. The law does not presume the existence of a partnership, and Brazos, as the party
seeking to establish the existence of a partnership, has the burden to prove its existence by clear,
cogent and convincing evidence. Nesler v. Reed, 703 S.W.2d 520, 523 (Mo.App.1985). The
Supreme Court of Missouri has discussed this standard in Grissum v. Reesman, 505 S.W.2d 81, 86
169
(Mo. banc 1974).
As we now construe the phrase, it really means that the court should be clearly convinced of the
affirmative of the proposition to be proved. This does not mean that there may not be contrary
evidence. The word 'cogent' adds little, if anything; it means impelling, appealing to one's reason,
or convincing.
"Indicia of a partnership relationship includes a right to a voice in management of the
partnership business, a share of the profits of the partnership business, and a corresponding risk of
loss and liability to partnership creditors." Morrison v. Labor and Indus. Relations Com'n, 23
S.W.3d 902, 909 (Mo.App.2000) (emphasis added).
Since there is no written partnership agreement in this case, the agreement or existence of a
partnership, or lack thereof, may be implied by the conduct of the parties. Grissum v. Reesman, 505
S.W.2d 81, 86 (Mo. banc 1974). The conduct of the parties does not support a finding that a
partnership existed. O'Connor and Brazos' first association came when Brazos worked in O'Connor's
lab on externally funded research projects. Brazos would do the work and be compensated through
the research funds. This relationship changed when O'Connor left the university and the projects on
which he and Brazos worked involved consulting projects. Brazos argues that during this time, they
became partners.
Neither Brazos' nor O'Connor's actions were consistent with the establishment of a
partnership. In his counterclaim, Brazos alleges that he and O'Connor formed a partnership and that
the establishment of H2O'C "in no way affected the partnership relationship." In fact, he testified
that he considered himself one partner and H2O'C or the O'Connor family the other partner. H2O'C
was incorporated just after Brazos alleges that the partnership began. Yet, H2O'C was the primary
entity that handled all aspects of the consulting services. For example, all of the contracts for the
projects named H2O'C, and not Brazos and O'Connor individually or as partners, as a party; the
payments resulting from the contracts were paid to H2O'C; Brazos received compensation through
H2O'C; he had no interest in H2O'C; and all advertisements and papers were completed in the name
of H2O'C. No evidence suggests that a partnership existed separate from H2O'C.
Brazos claims, as evidence of a partnership, that he and O'Connor split the gross profits
equally, and each bore his own expenses. While the decision to divide profits may be prima facie
evidence of a partnership, assuming there was a division of the profits, "the sharing of profits 'is far
from conclusive, and this is particularly true where the parties, although agreeing to divide profits,
do not agree to share any possible losses." Nesler, 703 S.W.2d at 525. In Van Hoose v. Smith, 355
Mo. 799, 198 S.W.2d 23, 27 (1947), the Supreme Court noted that "it is not sufficient to create a
partnership that the parties were to share the profits of a given enterprise or transaction. They must
also have agreed, that is, intended to share the losses and to become partners." Although a specific
agreement to share losses may, in some instances, be implied, * * * the implication or presumption
may be overcome by evidence to the contrary, * * * Here, the presumption of an agreement to share
in the losses is rebutted by Brazos' testimony--there is utterly no evidence that O'Connor and Brazos
agreed or intended to share in any loss. Brazos testified that he did not intend to match any losses
and that O'Connor "never agreed to match any losses" that he incurred. While Brazos may claim
that no losses occurred during the business that would require him to contribute, the fact that there
170
was no agreement or intention to share in the losses is evidence of the nonexistence of a partnership
relationship. * * * It is unreasonable to assume that O'Connor agreed to share equally with Brazos
the gross revenues (as opposed to gross profits) and then for O'Connor to absorb personally any loss
or expenses that may have resulted from the partnership. Rather, it is more likely that O'Connor was
merely compensating Brazos for work performed on the consulting contracts based upon Brazos'
work on the project, which will be addressed below.
Further, the testimony at trial was that this was a sharing of gross revenues, not net income.
As noted above, Brazos testified that the agreement was to pay their own expenses, and it appears
that most of the overhead was paid by O'Connor. The fact that expenses were not born by the
partnership further refutes the existence of a partnership since this fact suggest that there was no true
sharing of profits in this case. The Eastern District in Binkley v. Palmer, 10 S.W.3d 166, 172
(Mo.App.1999), held that "[g]ross revenues are not profits and an agreement to pay a percentage of
gross revenues is not the sharing of profits." There, the court noted that "Missouri courts have
defined 'profit' as the benefit of or the advantage remaining after all costs, charges and expenses have
been deducted from income." Id. Brazos' own evidence supports that this was not a true sharing of
profits that would evidence a partnership.
Moreover, no inference of a partnership is drawn where a share of the profits was received by
an employee in payment of wages. Section 358.070(4)(b). [FN5] See also Nesler, 703 S.W.2d at
525. Here, O'Connor prepared budgets for each of the projects based upon the amount of work he
expected to expend. Brazos' compensation was based upon these amounts. He even testified that the
"division of the profits" in the initial contract was a "division of what we considered to be
compensation for our work and our expenses." Thus, it is clear that he was being paid for services
rendered on each project. Brazos' received compensation from H2O'C in which taxes, social security
and unemployment was withheld. He also received W-2 forms from the corporation. While
testimony from Brazos' brother indicates that it is not unusual for a partner to consider himself an
employee and receive W-2 forms, there is no evidence that any other "sharing of profits" occurred
apart from this compensation for services. Further, Brazos' individual income taxes during this time
list his occupation as a sole proprietor and consultant. Finally, and likely the most significant
indication that a partnership did not exist, when his association with O'Connor ended, he filed an
unemployment claim with the Division of Employment Security. This was after consultation with
his brother who was an accountant. He did not petition the court at that time to dissolve the
partnership and enter an accounting to distribute the assets of the partnership, but chose instead to
seek unemployment benefits.
FN5. Section 358.070(4)(b) states that "The receipt by a person of a share of the profits of a
business is prima facie evidence that the is a partner in the business, but no such inference
shall be drawn in if such profits were received in payment: ... (b) As wages of an
employee...."
Apart from his assertion that there was a sharing of profits, Brazos has failed to point to an
intention or agreement to become partners, * * * or to enter into a relationship that legally
constitutes a partnership, * * * Brazos has provided no indication that a discussion occurred
between him and O'Connor concerning an intent or agreement to create a partnership to perform the
consulting work. * * * Brazos testified that he questioned O'Connor about their relationship several
171
times before the March 1997 break-up. If there was an agreement to enter into a partnership, then
Brazos would have had no question about the relationship. Brazos may have wanted to be a partner,
but the evidence does not support a co- ownership of a business. * * * The overwhelming evidence
is that H2O'C was the business entity involved in the consulting services and O'Connor exercised
control over the business enterprise. Brazos has provided no evidence of a "definite and specific
agreement" to enter into a partnership or to conduct business as partners. Shea v. Helling, 826
S.W.2d 419, 421 (Mo.App.1992) (quoting Brotherton v. Kissinger, 550 S.W.2d 904, 907
(Mo.App.1977)).
Likewise, as indicated above, there is no evidence that Brazos had a voice in the management
of the business. Brazos did not have any say in the decision to bring O'Connor's son into the
business. While he contributed to the budget preparation, it was O'Connor who negotiated the
contracts and submitted the final budget. Because each of the contracts were executed in the name
of H2O'C, Brazos, who stated that he did not have any interest in H2O'C, did not have the authority
to enter into contracts on its behalf. It does not appear from the testimony that he had any control
over the financial aspects of the relationship. While he may have had authority to order items
needed for the project, he had no ability to disperse funds to pay for those items since they were paid
through H2O'C, nor was there any other separate partnership account from which Brazos could
disperse funds to pay partnership expenses. * * *
Brazos' asserts that he was held out as a partner. He also states that in advertisements/papers to
thousands of people he was represented as being a partner. In one, a brief biography of each is given
with the statement "[t]ogether, they constitute H2O'C." In another both are pictured with brief
statements about their expertise. Both of these, however, concern H2O'C. There is no indication of a
partnership separate from H2O'C. Further, neither Brazos' business cards nor any advertisement
stated specifically that he was a partner. They only suggest that he was working with H2O'C. Even
if this court were to assume that "holding out" as a partner was sufficient to establish the existence of
a partnership, the facts alleged by Brazos do not sufficiently establish a holding out as this court
discussed in Meyer v. Lofgren, 949 S.W.2d 80 (Mo.App.1997). In Meyer, announcements were
printed announcing that Meyer had joined the accounting firm as a "partner in charge of personal
financial planning" and business cards indicated that she was a "partner of the firm." Meyer, 949
S.W.2d at 83.
Brazos also provides other evidence of a partnership. He claims that (1) both brought
"unique talents" to the alleged partnership, (2) he purchased a microscope for use in the business, (3)
he brought in the Premium Standard Farms project, and (4) he purchased a home based on the
representations that their association would continue and that space was needed for a laboratory and
for storage. None of this necessarily suggests the existence of a partnership.
While the talents of O'Connor and Brazos are different, this court cannot ignore the disparity
in professional and educational background. This court is not saying that a partnership can only
exist where the experience of the parties are similar, yet this evidence further supports that O'Connor
was the principal in this enterprise. Their relationship began when Brazos worked on O'Connor's
externally funded research projects. While Brazos may have supplied talents or skills distinct from
those of O'Connor, some of those tasks were completed by others who were treated as independent
contractors of H2O'C.
172
Second, Brazos purchased the microscope with his own money, even after O'Connor stated
that it was not necessary for their business. Brazos testified that this was an instrument that he felt
he had to have since it was how he earned his living, and there was evidence that Brazos conducted
consulting apart from H2O'C. O'Connor offered to pay rent for the microscope.
Furthermore, when he purchased the house, O'Connor completed a verification of
employment for the mortgage. The fact that he used part of his home for storage or lab space does
not necessarily support the existence of a partnership. Nor does the fact that he brought a project to
H2O'C. Although Brazos claims that he could have completed the project without the involvement
of O'Connor, by his own testimony there were certain aspects of the project that he could not
complete by himself.
The conduct of the parties in this case does not evidence the existence of a partnership.
There was no true sharing of the profits. More importantly, under the facts here there was absolutely
no evidence of any agreement or even thought given to sharing in the losses of the partnership or in
assuming the burden of the partnership expenses. Nor was there evidence of a specific intention to
enter into a partnership relationship. Brazos did not participate in the management of the
partnership. He had no authority to issue checks or enter into contracts on behalf of the partnership.
Thus, there is no indicia of a partnership relationship. * * *
This case does not rule out the establishment of sufficient evidence to support declaration of
a partnership in the absence of a written agreement so long as there is agreement of the parties on
sharing of profits, losses and ownership of partnership assets. * * * In the case at bar, credibility
issues aside, there was no evidence of any agreement on sharing of losses, for example, so the
declaration of partnership must fail. Brazos' evidence failed to prove the existence of a partnership
by clear, cogent and convincing evidence. There was no substantial evidence in support of the
judgment of the trial court. Having determined that a partnership did not exist, the court need not
address Appellants' remaining points. Since the parties do not challenge the entry of damages in the
amount of $300 for conversion of personal property under Count IV, that portion of the judgment
will be affirmed.
The judgment of the trial court is reversed and the cause remanded to the trial court to enter
judgment finding that no partnership existed and awarding damages in favor Brazos under Count IV
in the amount of $300.
All concur.
Young v. Jones
816 F.Supp. 1070 (D. S.C. 1992)
173
Robert H. YOUNG and EDX Holdings, Inc., Plaintiffs,
v.
Raymond JONES, William Ruth, Alfred Martin, General Bennett, Tom Whelan, Claude
Surface, Con Fecher, Ed Hughes, Helen Cork, William Eaxley, Tom Ruhf, George
Strickland, Ann Grossheusch, Cathy McGill, other possible officers and
directors of Hilton Head Bank and Trust, N.A., after July 1988, not yet
ascertained, the Federal Deposit Insurance Corporation in its corporate
capacity, and Price Waterhouse, Defendants.
Civ. A. No. 2:92-0308-1.
United States District Court,
D. South Carolina,
Beaufort Division.
Oct. 16, 1992.
ORDER
HAWKINS, Chief Judge.
This matter is before the court on three motions.
* * *
As background, this suit arises from an investment transaction. Plaintiffs are investors from
Texas who deposited over a half-million dollars in a South Carolina bank and the funds have
disappeared.
PW-Bahamas issued an unqualified audit letter regarding the financial statement of Swiss
American Fidelity and Insurance Guaranty (SAFIG). Plaintiffs aver that on the basis of that financial
statement, they deposited $550,000.00 in a South Carolina bank. Other defendants, not involved in
the motions herein, allegedly sent the money from the South Carolina Bank to SAFIG. The financial
statement of SAFIG was falsified. The plaintiffs' money and its investment potential has been lost to
the plaintiffs and it is for these losses that the plaintiffs seek to recover damages.
* * *
Plaintiffs' allege that an unqualified audit letter concerning a financial statement of an
association, SAFIG, was issued by a Bahamian accounting office. The letterhead identified the
Bahamian accounting firm only as "Price Waterhouse." The audit letter also bore a Price
Waterhouse trademark and was signed "Price Waterhouse."
Plaintiffs assert that it was foreseeable to the accounting firm that issued the letter that thirdparties would rely upon the financial statement, the subject of the audit letter. According to the
plaintiffs, the stamp of approval created by Price Waterhouse's audit letter of SAFIG's financial
statement lent credence to the defrauders' claims so that plaintiffs were induced to invest to their
detriment.
* * *
174
Plaintiffs assert that PW-Bahamas and PW-US operate as a partnership, i.e., constitute an
association of persons to carry on, as owners, business for profit. In the alternative, plaintiffs
contend that if the two associations are not actually operating as partners they are operating as
partners by estoppel.
Defendants PW-US and PW-Bahamas flatly deny that a partnership exists between the two
entities and have supplied, under seal, copies of relevant documents executed which establish that
the two entities are separately organized. Counsel for plaintiffs admits that he has found nothing
which establishes that the two entities are partners in fact. The evidence presented wholly belies
plaintiffs claims that PW-Bahamas and PW-US are operating as a partnership in fact. Thus, the
court finds that there is no partnership, in fact, between PW- Bahamas and PW-US.
Then, plaintiffs make a double-edged argument that PW-US is a partner by estoppel of PWBahamas. On the one hand, the argument is that if the two partnerships are partners by estoppel,
then the court has personal jurisdiction over PW-Bahamas, as PW-US's partner by estoppel, because
PW-US has at least "minimum contacts" with South Carolina. On the other hand, the argument for
estoppel seems to be that if the two partnerships are partners by estoppel then PW-US can be held
liable for the negligent acts of its partner PW-Bahamas, so the claim against PW-Bahamas operates
as a claim against PW-US. Therefore, the court will review the evidence that plaintiffs have
presented on the issue of partnership by estoppel on both the Rule 12(b)(2) motion presented by PWBahamas and the Rule 12(b)(6) motion presented by PW-US.
As a general rule, persons who are not partners as to each other are not partners as to third
persons. S.C.Code Ann. ' 33-41-220 (Law.Co-op 1976). However, a person who represents himself,
or permits another *1076 to represent him, to anyone as a partner in an existing partnership or with
others not actual partners, is liable to any such person to whom such a representation is made who
has, on the faith of the representation, given credit to the actual or apparent partnership. S.C.Code
Ann. ' 33-41-380(1). This exception to the general rule for liability by partners by estoppel is
statutorily created under the Uniform Partnership Act in the version adopted by the State of South
Carolina.
Generally, partners are jointly and severally liable for everything chargeable to the
partnership. S.C.Code Ann. ' 33-41-370. In South Carolina, a partnership is an entity separate and
distinct from the individual partners who compose it. South Carolina Tax Comm. v. Reeves, 278
S.C. 658, 300 S.E.2d 916 (1983). Therefore, plaintiffs' argument is that if the court would find that
PW-Bahamas and PW-US are partners by estoppel, PW-US would be jointly and severally liable
with PW-Bahamas for everything chargeable to the partnership of the two firms. Moreover, if the
two partnerships are partners by estoppel, the individual partners of PW-US would then be jointly
and severally liable for the negligent acts of the PW-Bahamas partnership.
Plaintiffs maintain that Price Waterhouse holds itself out to be a partnership with offices
around the world. According to the plaintiffs, the U.S. affiliate makes no distinction in its
advertising between itself and entities situated in foreign jurisdictions. The foreign affiliates are
permitted to use the Price Waterhouse name and trademark. Plaintiffs urge the conclusion of
partnership by estoppel from the combination of facts that Price Waterhouse promotes its image as
an organization affiliated with other Price Waterhouse offices around the world and that it is
common knowledge that the accounting firm of Price Waterhouse operates as a partnership.
175
Plaintiffs offer for illustration that PW-Bahamas and PW-US hold themselves out to be
partners with one another, a Price Waterhouse brochure, picked up by plaintiffs' counsel at a
litigation services seminar, that describes Price Waterhouse as one of the "world's largest and most
respected professional organizations." The brochure states: "[O]ver 28,000 Price Waterhouse
professionals in 400 offices throughout the world can be called upon to provide support for your
reorganization and litigation efforts." Plaintiffs assert that assurances like that contained in the
brochure cast Price Waterhouse as an established international accounting firm and that the image,
promoted by PW- US, is designed to gain public confidence in the firm's stability and expertise.
However, the plaintiffs do not contend that the brochure submitted was seen or relied on by
them in making the decision to invest. In addition, plaintiffs point to nothing in the brochure that
asserts that the affiliated entities of Price Waterhouse are liable for the acts of another, or that any of
the affiliates operate within a single partnership.
To bolster their argument, Plaintiffs sought to discover certain documents filed in a 1980 suit,
entitled Cross v. Price Waterhouse, which resulted in a September 27, 1982, order. The court in
Cross allegedly found that the U.S. partnership of Price Waterhouse was vicariously liable for
negligence of the Bahamas firm of Price Waterhouse.
Defendant PW-US supplied copies of the relevant Cross documents which showed that the
order of Judge Pratt was later vacated. Furthermore, PW-US informs the court that during the period
in question in the Cross case, there were licensing agreements between the U.S. partnership and the
Bahamian partnership for use of the name and trademark on which the decision was based. Such
licensing agreements are no longer in existence.
PW-US points out that the South Carolina statute, which was cited by plaintiffs in support of
their argument for partnership by estoppel, speaks only to the creation of liability to third-persons
who, in reliance upon representations as to the existence of a partnership, "[give] credit" to that
partnership. S.C.Code Ann. ' 33-41-380(1) (Law.Co-op 1976). There is no evidence, neither has
there been an allegation, that credit was extended on the basis of any representation of a partnership
existing between PW-Bahamas and the South Carolina members of the *1077 PW-US partnership.
There is no evidence of any extension of credit to the either PW-Bahamas or PW-US, by plaintiffs.
Thus, the facts do not support a finding of liability for partners by estoppel under the statutory law of
South Carolina.
Further, there is no evidence that plaintiffs relied on any act or statement by any PW-US
partner which indicated a the existence of a partnership with the Bahamian partnership. Finally,
there is no evidence, nor is there a single allegation that any member of the U.S. partnership had
anything to do with the audit letter complained of by plaintiffs, or any other act related to the
investment transaction.
The court cannot find any evidence to support a finding of partners by estoppel. Therefore,
the allegations of negligence against PW-Bahamas cannot serve to hold individual members of the
PW-US partnership in the suit. Without PW-US' contacts with the forum, there are insufficient
contacts with South Carolina for PW-Bahamas to reasonably expected to have been haled into court
here.
For the reasons hereinabove stated, the court hereby grants the plaintiff's motion to amend
the complaint to join the U.S. partners of Price Waterhouse who reside in South Carolina.
176
Further, the court hereby grants PW-Bahamas' motion to dismiss for lack of personal
jurisdiction.
Further, the court dismisses the three South Carolina partners of PW-US, and those yet
ascertained, for failure to state a claim against them upon which relief can be granted.
IT IS SO ORDERED.
Owen v. Cohen
19 Cal.2d 147, 119 P.2d 713 (1941)
OWEN
v.
COHEN.
L. A. 17917.
Supreme Court of California.
Dec. 5, 1941.
In Bank.
CURTIS, Justice.
This is an action in equity brought for the dissolution of a partnership and for the sale of the
partnership assets in connection with the settlement of its affairs.
On or about January 2, 1940, plaintiff and defendant entered into an oral agreement whereby
they contracted to become partners in the operation of a bowling-alley business in Burbank,
California. The parties did not expressly fix any definite period of time for the duration of this
undertaking. For the purpose of securing necessary equipment, plaintiff advanced the sum of
$6.986.63 to the partnership, with the understanding that the amount so contributed was to be
considered a loan to the partnership and was to be repaid to the plaintiff out of the prospective profits
of the business as soon as it could reasonably do so. Defendant owned an undivided one-half
interest in a bowling-alley *149 establishment in Burbank and the partnership purchased the other
one-half interest for the sum of $2,500, of which amount $1,250 was paid in cash and the balance of
$1,250 was evidenced by the partners' promissory note. As part of this transaction plaintiff assumed
payment of the sum of $4,650 owing on a trust deed on the property, title to which he took in his
own name. The partnership also purchased alleys and other requisite furnishings, and as part
payment therefor the two partners executed promissory notes in the total sum of $4,596, secured by a
chattel mortgage on said equipment.
Plaintiff and defendant opened their partnership bowling-alley on March 15, 1940. From the
day of its beginning until the institution of the present action on June 28, 1940--a period of
177
approximately three and one-half months-- the business was operated at a profit. During this time
the partners paid off a part of the capital indebtedness and each took a salary of $50 per week.
However, shortly after the business was begun differences arose between the partners with regard to
the management of the partnership affairs and their respective rights and duties under their
agreement. This continuing lack of harmonious relationship between the partners had its effect on
the monthly gross receipts, which, though still substantial, were steadily declining, and at the date of
the filing of this action much of the partnership indebtedness, including the aforementioned loan
made by plaintiff, remained unpaid. On July 5, 1940, in response to plaintiff's complaint and upon
order to show cause, the court appointed a receiver to take charge of the partnership business, which
ever since has been under his control and management.
As the result of the trial of this action the court found that the partners 'did not agree upon
any definite term for the continuance of said partnership, nor upon any particular undertaking to be
accomplished; that the said partnership was a partnership at will'. From this finding the court
concluded that plaintiff was entitled to a dissolution under section 2425, subdivision (1)(b), of the
Civil Code. The court further found that the parties disagreed 'on practically all matters essential to
the operation of the partnership business and upon matters of policy in connection therewith'; that
the defendant had 'committed breaches of the partnership agreement' and had 'so conducted himself
in affairs relating *150 to the business' that it was 'not reasonably practicable to carry on the
partnership business with him'. From this finding it was concluded that the partnership was
dissoluble by court decree in accordance with the provisions of section 2426 of the Civil Code.
Pursuant to these findings of fact and conclusions of law, the trial court rendered a decree
adjudging the partnership dissolved and ordering the assets sold by the receiver. It was further
decreed that the proceeds of such sale and of the receiver's operation of the business on hand upon
the consummation of such sale be applied, after allowance for the receiver's fees and expenses, to
payment of the partnership debts, including the amount of $6,986.63 loaned by plaintiff to the
business; that one-half of the remainder of the proceeds be paid to plaintiff, together with the
additional sum of $100.17 for his costs; and that defendant be given what was left. It was also
provided that in bidding at the sale of the partnership assets, either party might use, in lieu of cash,
credit to the extent of any sums which would accrue to him out of the proceeds; and that if the
money derived from such sale proved to be insufficient to pay plaintiff's costs, a personal judgment
to the extent of the deficiency was to be rendered against defendant. It is from this decree that the
defendant has appealed.
The principal question presented for consideration is whether or not the evidence warrants a
decree of dissolution of **715 the partnership. Defendant's objection to the finding that the
partnership was one at will is fully justified by the uncontradicted evidence that the partners at the
inception of their undertaking agreed that all obligations incurred by the partnership, including the
money advanced by plaintiff, were to be paid out of the profits of the business. While the term of
the partnership was not expressly fixed, it must be presumed from this agreement that the parties
intended the relation should continue until the obligations were liquidated in the manner mutually
contemplated. These circumstances negative the existence of a partnership at will, dissoluble at the
election of a member thereof (Mervyn Investment Company v. Biber, 184 Cal. 637, 194 P. 1037),
and demonstrate conclusively that the assailed finding is without support in the record. However,
our determination of this issue does not necessitate a reversal of the decree, for other facts found by
the court relating to defendant's breach of *151 the partnership agreement amply justify the decision
178
rendered. In such event the law is settled beyond question that the finding which does not conform
to the evidence becomes immaterial and may be disregarded.
It is not necessary to enter into a detailed statement of the quarrel between the partners.
Whether the disharmony was the result of a difference in disposition or to other causes, the effect is
the same. Most of the acts of which complaint is made are individually trivial, but from the
aggregate the court found, and the record so indicates, that the breach between the partners was due
in large measure to defendant's persistent endeavors to become the dominating figure of the
enterprise and to humiliate plaintiff before the employees and customers of the bowling-alley. In
this connection plaintiff testified that defendant declined to do any substantial amount of the work
required for the successful operation of the business; that defendant informed him that he
(defendant) 'had not worked yet in 47 years and did not intend to start now'; and that he (plaintiff)
'should do whatever manual work he could do on the premises, but that he (defendant) would act as
manager and wear the dignity'. The record also discloses that during the preparation and before the
opening of the bowling-alley establishment, defendant told a mutual acquaintance that plaintiff
would not be there very long. Corroborative of this evidence is plaintiff's testimony that a few
weeks prior to the filing of this action, when he had concluded that he and defendant could not
reconcile their differences, he asked defendant to make an offer either to buy out his (plaintiff's)
interest in the business or to sell to him (plaintiff); that defendant replied, in effect, that when he was
ready to sell to plaintiff, he would set the price himself and it would cost plaintiff plenty to get rid of
him. In addition, there is considerable evidence demonstrating that the partners disagreed on matters
of policy relating to the operation of the business. One cause of dispute in this connection was
defendant's desire to open a gambling room on the second floor of the bowling-alley property and
plaintiff's opposition to such move. Another was defendant's dissatisfaction with the agreed salary
of $50 per week fixed for each partner to take from the business and his desire to withdraw
additional amounts therefrom. This constant dissension over money affairs culminated in
defendant's*152 appropriation of small sums from the partnership's funds to his own use without
plaintiff's knowledge, approval or consent. In justification of his conduct defendant claimed that on
each occasion he set aside a like amount for plaintiff. This extenuating circumstance, however, does
not serve to eliminate from the record the fact that monetary matters were a continual source of
argument between the partners.
Defendant urges that the evidence shows only petty discord between the partners, and he
advances, as applicable here, the general rule that trifling and minor differences and grievances
which involve no permanent mischief will not authorize a court to decree a dissolution of a
partnership. 20 R.C.L. 958, par. 182. However, as indicated by the same section in Ruling Case Law
and previous sections, courts of equity may order the dissolution of a partnership where there are
quarrels and disagreements of such a nature and to such extent that all confidence and cooperation
between the parties has been destroyed or where one of the parties by his misbehavior materially
hinders a proper conduct of the partnership business. It is not only large affairs which produce
trouble. The continuance of overbearing and vexatious petty treatment of one partner by another
frequently is more serious in its disruptive character than would be larger differences which would
be discussed and, **716 settled. For the purpose of demonstrating his own preeminence in the
business one partner cannot constantly minimize and deprecate the importance of the other without
undermining the basic status upon which a successful partnership rests. In our opinion the court in
the instant case was warranted in finding from the evidence that there was very bitter, antagonistic
feeling between the parties; that under the arrangement made by the parties for the handling of the
179
partnership business, the duties of these parties required cooperation, coordination and harmony; and
that under the existent conditions the parties were incapable of carrying on the business to their
mutual advantage. As the court concluded, plaintiff has made out a cause for judicial dissolution of
the partnership under section 2426 of the Civil Code:
'(1) On application by or for a partner the court shall decree a dissolution
whenever: * * *
'(c) A partner has been guilty of such conduct as tends to affect prejudicially the
carrying on of the business,
*153 '(d) A partner wilfully or persistently commits a breach of the partnership
agreement, or otherwise so conducts himself in matters relating to the partnership
business that it is not resonably practicable to carry on the business in partnership
with him, * * *
'(f) Other circumstances render a dissolution equitable.'
Defendant next questions the propriety of that portion of the decree which provides for the
payment of plaintiff's loan to the business, to-wit, the sum of $6,986.63, from the proceeds realized
upon the sale of the partnership assets. It is his contention that since the partners agreed that the
amount so contributed was to be repaid from the profits of the business, which the evidence
established to be a profitable enterprise, the court's order directing the discharge of this partnership
obligation in a manner violative of the express understanding of the parties is unjustifiable. Mervyn
Investment Company v. Biber, supra. That a party to a contract may absolutely limit his right to
receive a sum of money from a specified source is indisputable. Lynch v. Keystone Consolidated
Mining Company, 163 Cal.690, 123 P.968; Martin v. Martin, 5 Cal.App.2d 591, 43 P.2d 314. But
defendant's argument based upon this settled precept is of no avail here, for his abovedescribed
conduct, creative of a condition of disharmony in derogation of the best interests of the partnership,
constituted ground for the court's decree of dissolution and its order directing the sale of the assets
for the purpose of forwarding the settlement of the partnership affairs. Defendant, whose persistence
in the commission of acts provocative of dissension and disagreement between the partners made it
impossible for them to carry on the partnership business, is in no position now to insist on its
continued operation. These circumstances not only render the assailed provision of the decree
invulnerable to defendant's objection, but also establish its complete accord with established
principles of equity jurisprudence.
* * *
The judgment is affirmed.
GIBSON, C. J., SHENK, J., EDMONDS, J., HOUSER, J., CARTER, J., and TRAYNOR, J.,
concurred.
Page v. Page
55 Cal.2d 192, 359 P.2d 41, 10 Cal.Rptr. 643 (1961)
180
George B. PAGE, Appellant,
v.
H. B. PAGE, Respondent.
L. A. 25644.
Supreme Court of California, In Bank.
Jan. 27, 1961.
TRAYNOR, Justice.
Plaintiff and defendant are partners in a linen supply business in Santa Maria, California.
Plaintiff appeals from a judgment declaring the partnership to be for a term rather than at will.
The partners entered into an oral partnership agreement in 1949. Within the first two years
each partner contributed approximately $43,000 for the purchase of land, machinery, and linen
needed to begin the business. From 1949 to 1957 *194 the enterprise was unprofitable, losing
approximately $62,000. The partnership's major creditor is a corporation, wholly owned by plaintiff,
that supplies the linen and machinery necessary for the day-to-day operation of the business. This
corporation holds a $47,000 demand note of the partnership. The partnership operations began to
improve in 1958. The partnership earned $3,824.41 in that year and $2,282.30 in the first three
months of 1959. Despite this improvement plaintiff wishes to terminate the partnership.
The Uniform Partnership Act provides that a partnership may be dissolved 'By the express
will of any partner when no definite term or particular undertaking is specified.' Corp.Code, s
15031, subd. (1)(b). The trial court found that the partnership is for a term, namely, 'such reasonable
time as is necessary to enable said partnership to repay from partnership profits, indebtedness
incurred for the purchase of land, buildings, laundry and delivery equipment and linen for the
operation of such business. * * *' Plaintiff correctly contends that this finding is without support in
the evidence.
Defendant testified that the terms of the partnership were to be similar to former partnerships
of plaintiff and defendant, and that the understanding of these partnerships was that 'we went into
partnership to start the business and let the business operation pay for itself, put in so much money,
and let the business pay itself out.' There was also testimony that one of the former partnership
agreements provided in ***645 **43 writing that the profits were to be retained until all obligations
were paid.
Upon cross-examination defendant admitted that the former partnership in which the earnings
were to be retained until the obligations were repaid was substantially different from the present
partnership. The former partnership was a limited partnership and provided for a definite term of
five years and a partnership at will thereafter. Defendant insists, however, that the method of
operation of the former partnership showed an understanding that all obligations were to be repaid
from profits. He nevertheless concedes that there was no understanding as to the term of the present
partnership in the event of losses. He was asked: '(W)as there any discussion with reference to the
continuation of the business in the event of losses?' He replied, 'Not that I can remember.' He was
then asked, 'Did you have any understanding with Mr. Page, your brother, the plaintiff in this action,
181
as to how the obligations were to be paid if there were losses?' He *195 replied, 'Not that I can
remember. I can't remember discussing that at all. We never figured on losing, I guess.'
Viewing this evidence most favorably for defendant, it proves only that the partners expected
to meet current expenses from current income and to recoup their investment if the business were
successful.
Defendant contends that such an expectation is sufficient to create a partnership for a term
under the rule of Owen v. Cohen, 19 Cal.2d 147, 150, 119 P.2d 713. In that case we held that when
a partner advances a sum of money to a partnership with the understanding that the amount
contributed was to be a loan to the partnership and was to be repaid as soon as feasible from the
prospective profits of the business, the partnership is for the term reasonably required to repay the
loan. It is true that Owen v. Cohen, supra, and other cases hold that partners may impliedly agree to
continue in business until a certain sum of money is earned (Mervyn Investment Co. v. Biber, 184
Cal. 637, 641-642, 194 P. 1037), or one or more partners recoup their investments (Vangel v.
Vangel, 116 Cal.App.2d 615, 625, 254 P.2d 919), or until certain debts are paid (Owen v. Cohen,
supra, 19 Cal.2d at page 150, 119 P.2d at page 714), or until certain property could be disposed of on
favorable terms (Shannon v. Hudson, 161 Cal.App.2d 44, 48, 325 P.2d 1022). In each of these
cases, however, the implied agreement found support in the evidence.
In Owen v. Cohen, supra, the partners borrowed substantial amounts of money to launch the
enterprise and there was an understanding that the loans would be repaid from partnership profits.
***
In each of these cases the court properly held that the partners impliedly promised to continue
the partnership for a term reasonably required to allow the partnership to earn sufficient money to
accomplish the understood objective.
***
In the instant case, however, defendant failed to prove any facts from which an agreement to
continue the partnership for a term may be implied. The understanding to which defendant testified
was no more than a common hope that the partnership earnings would pay for all the necessary
expenses. Such a hope does not establish even by implication a 'definite term or particular
undertaking' as required ***646 **44 by section 15031, subdivision (1)(b) of the Corporations
Code. All partnerships are ordinarily entered into with the hope that they will be profitable, but that
alone does not make them all partnerships for a term and obligate the partners to continue in the
partnerships until all of the losses over a period of many years have been recovered.
Defendant contends that plaintiff is acting in bad faith and is attempting to use his superior
financial position to appropriate the now profitable business of the partnership. Defendant has
invested $43,000 in the firm, and owing to the long period of losses his interest in the partnership
assets is very small. The fact that plaintiff's wholly-owned corporation holds a $47,000 demand note
of the partnership may make it difficult to sell the business as a going concern. Defendant fears that
upon dissolution he will receive very little and that plaintiff, who is the managing partner and knows
how to conduct the operations of the partnership, will receive a business that has become very
profitable because of the establishment of Vandenberg Air Force Base in its vicinity. Defendant
charges that plaintiff has been content to share the losses but now that the business has become
profitable he wishes to keep all the gains.
182
There is no showing in the record of bad faith or that the improved profit situation is more
than temporary. In any event these contentions are irrelevant to the issue whether the partnership is
for a term or at will. Since, however, this action is for a declaratory judgment and will be the basis
for future action by the parties, it is appropriate to point out that defendant is amply protected by the
fiduciary duties of co-partners.
Even though the Uniform Partnership Act provides that a partnership at will may be
dissolved by the express will of any partner (Corp.Code, s 15031, subd. (1) (b)), this power, like any
other power held by a fiduciary, must be exercised in good faith.
*197 We have often stated that 'partners are trustees for each other, and in all proceedings
connected with the conduct of the partnership every partner is bound to act in the highest good faith
to his copartner, and may not obtain any advantage over him in the partnership affairs by the
slightest misrepresentation, concealment, threat, or adverse pressure of any kind.
* * *
A partner at will is not bound to remain in a partnership, regardless of whether the business is
profitable or unprofitable. A partner may not, however, by use of adverse pressure 'freeze out' a copartner and appropriate the business to his own use. A partner may not dissolve a partnership to gain
the benefits of the business for himself, unless he fully compensates his co- partner for his share of
the prospective business opportunity. In this regard his fiduciary duties are at least as great as those
of a shareholder of a corporation.
In the case of In re Security Finance Co., 49 Cal.2d 370, 376-377, 317 P.2d 1, 5 we stated
that although shareholders representing 50 per cent of the voting power have a right under
Corporations Code, s 4600 to dissolve a corporation, they may not exercise such right in order 'to
defraud the other shareholders (citation), to 'freeze out' minority shareholders (citation), or to sell the
assets of the dissolved corporation at an inadequate price (citation).'
***647 Likewise in the instant case, plaintiff has the power to dissolve the partnership by express
notice to defendant. If, however, it is proved that plaintiff acted in bad faith and violated his
fiduciary duties by attempting to appropriate to his own use the new prosperity of the partnership
without adequate compensation to his co-partner, the dissolution would be wrongful and the plaintiff
would be liable as provided by subdivision (2)(a) of Corporations Code, s 15038 (rights of partners
upon wrongful dissolution) for violation of the *198 implied agreement not to exclude defendant
wrongfully from the partnership business opportunity.
The judgment is reversed.
GIBSON, C. J., McCOMB, PETERS, WHITE, and DOOLING, JJ., and WOOD, J. pre tem., concur.
Long v. Lopez
115 S.W.3d 221
Court of Appeals of Texas,
Fort Worth.
183
Wayne A. LONG, Appellant,
v.
Sergio LOPEZ, Appellee.
Aug. 21, 2003.
Panel B: HOLMAN, GARDNER, and WALKER, JJ.
OPINION
DIXON W. HOLMAN, Justice.
Appellant Wayne A. Long sued Appellee Sergio Lopez to recover from him, jointly and
severally, his portion of a partnership debt that Appellant had paid. After a bench trial, the trial court
ruled that Appellant take nothing from Appellee. We reverse and render, and remand for calculation
of attorney's fees in this suit and pre- and post-judgment interest.
BACKGROUND
Formation and operation of the partnership
Appellant testified that in September 1996, Appellant, Appellee, and Don Bannister entered
into an oral partnership agreement in which they agreed to be partners in Wood Relo ("the
partnership"), a trucking business located in Gainesville, Texas. Wood Relo located loads for and
dispatched approximately twenty trucks it leased from owner-operators.
Appellant said that in forming this partnership, the three individuals signed and filed with the
county clerk on September 3, 1996 an assumed name certificate stating they were doing business as
Wood Relo, a "General Partnership." This certificate was admitted into evidence at trial. Appellant
testified that the three partners agreed to share equally one-third of the profits and losses of the
partnership. All three partners were authorized to sign checks on Wood Relo's bank account. [FN1]
Appellee testified, however, that even though they signed the assumed name certificate and the bank
ownership form, in his opinion there was no partnership agreement among the three men.
FN1. It was noted at trial that the bank's "Business Account Agreement" states in the section
designated "Ownership of Account" that Wood Relo is a "Corporation--For Profit," even
though one of the possible boxes that could have been checked is "Partnership." Appellant
testified that this was a mistake and that when the three partners signed the bank ownership
card, they did not notice that the wrong box was checked; he stated that Wood Relo is
definitely not a corporation.
The trial court found that Appellant, Appellee, and Bannister formed a partnership, Wood
Relo, without a written partnership agreement. [FN2] In his brief on appeal, Appellee does not
contest these findings.
FN2. See Tex.Rev.Civ. Stat. Ann. art. 6132b-1.01(12) (Vernon Supp.2003) (" 'Partnership
agreement' means any agreement, written or oral, of the partners concerning a partnership.");
184
id. art. 6132b-2.02(a) ( "[A]n association of two or more persons to carry on a business for
profit as owners creates a partnership, whether the persons intend to create a partnership and
whether the association is called a 'partnership,' 'joint venture,' or other name.").
Appellant testified that to properly conduct the partnership's business, he entered into an
office equipment lease with IKON Capital Corporation ("IKON") on behalf of the partnership. The
lease was a thirty-month contract under which the partnership leased a telephone system, fax
machine, and photocopier at a rate of $577.91 per month. The lease agreement was between IKON
and Wood Relo; the "authorized signer" was listed as Wayne Long, who also signed as personal
guarantor.
Appellant stated that all three partners were authorized to buy equipment for use by the
partnership. He testified that the partners had agreed that it was necessary for the partnership to
lease the equipment and that on the day the equipment was delivered to Wood Relo's office,
Appellant was the only partner at the office; therefore, Appellant was the only one available to sign
the lease and personal guaranty that IKON required.
Appellant and Appellee both acknowledged that around March of 1997, the disintegration of
a key business relationship between Wood Relo and another company caused Wood Relo to become
unable to carry out its business. Appellant testified that Bannister, the third partner, "decided to ...
pull up stake and go home," quitting the partnership. Later, Bannister filed for personal bankruptcy.
Appellant testified that when Bannister left Wood Relo, the partnership still had "quite a few" debts
to pay, including the IKON lease.
The claim by IKON
In April 1997, when the partnership closed its Gainesville office due to decreased business,
the IKON office equipment was moved to an office the parties were using in Sherman. Appellant
testified that he and Appellee worked with IKON to negotiate a settlement for IKON to repossess the
equipment, but IKON would not do so. Eventually, IKON did repossess all the leased equipment.
Appellant testified that he received a demand letter from IKON, requesting payment by Wood Relo
of overdue lease payments and accelerating payment of the remaining balance of the lease. IKON
sought recovery of past due payments in the amount of $2,889.55 and accelerated future lease
payments in the amount of $11,558.20, for a total of $14,447.75, plus interest, costs, and attorney's
fees, with the total exceeding $16,000. Appellant testified that he advised Appellee that he had
received the demand letter from IKON.
Ultimately, IKON filed a lawsuit against Appellant individually and d/b/a Wood Relo, but
did not name Appellee or Bannister as parties to the suit. Through his counsel, Appellant negotiated
a settlement with IKON for a total of $9,000. An agreed judgment was entered in conjunction with
the settlement agreement providing that if Appellant did not pay the settlement, Wood Relo and
Appellant would owe IKON $12,000.
After settling the IKON lawsuit, Appellant's counsel sent a letter to Appellee and Bannister
regarding the settlement agreement, advising them that they were jointly and severally liable for the
$9,000 that extinguished the partnership's debt to IKON, plus attorney's fees. At trial, Appellant said
185
Appellee then called him, very upset, saying that he refused to pay anything. Appellant claimed that
he told Appellee about the default on the IKON lease before the lawsuit was filed; however,
Appellee testified he did not know of the default until Appellant sent a letter to him informing him
that the settlement had already occurred. [FN3]
FN3. Appellant has subsequently paid the agreed settlement in full, and IKON has released
its judgment.
In response to Appellant's original petition, Appellee filed a general denial, but did not file a
verified plea denying the existence of the partnership.
FINDINGS OF FACT AND CONCLUSIONS OF LAW
After ruling that Appellant take nothing from Appellee, the trial court made the following
findings of fact and conclusions of law:
FINDINGS OF FACT
1. Plaintiff and Defendant were two of the three partners in a partnership.
2. The third partner is in bankruptcy.
3. Plaintiff signed a contract with a third party for the partnership and individually as a guarantor.
4. The partnership did not have a written partnership agreement.
5. The partnership defaulted on the payments dues [sic] under the contract with the said third party.
6. The third party sued Plaintiff after the default.
7. Defendant was not sued by the third party, and was not brought into the lawsuit by the Plaintiff.
8. Defendant was not aware of the lawsuit by the third party.
9. Plaintiff settled the lawsuit with the third party without consulting Defendant or obtaining
Defendant's agreement.
10. Plaintiff sued Defendant for 1/3 of the amount for which the Plaintiff settled the lawsuit
brought by the third party.
CONCLUSIONS OF LAW
1. A partner does not have authority to act for a partnership unless it is apparent authority or
authority granted to them by a written partnership agreement.
2. When Plaintiff settled the lawsuit with the third party, and without bringing Defendant into the
lawsuit, or consulting the Defendant, the Plaintiff was not acting for the partnership, because he
had no apparent authority with respect to lawsuits.
3. Plaintiff takes nothing as to Defendant in the present lawsuit. [Emphasis added.]
TEXAS REVISED PARTNERSHIP ACT
The trial court determined that Appellant was not entitled to reimbursement from Appellee
because Appellant was not acting for the partnership when he settled IKON's claim against the
partnership. The court based its conclusion on the fact that Appellant had no "apparent authority
with respect to lawsuits" and had not notified Appellee of the IKON lawsuit.
Authority to act for partnership
186
To the extent that a partnership agreement does not otherwise specify, the provisions of the
Texas Revised Partnership Act govern the relations of the partners and between the partners and the
partnership. Tex.Rev.Civ. Stat. Ann. art. 6132b-1.03(a). Under the Act, each partner has equal
rights in the management and conduct of the business of a partnership. Id. art. 6132b- 4.01(d). With
certain inapplicable exceptions, all partners are liable jointly and severally for all debts and
obligations of the partnership unless otherwise agreed by the claimant or provided by law. Id. art.
6132b-3.04. A partnership may be sued and may defend itself in its partnership name. Id. art.
6132b-3.01(1). Each partner is an agent of the partnership for the purpose of its business; unless the
partner does not have authority to act for the partnership in a particular matter and the person with
whom the partner is dealing knows that the partner lacks authority, an act of a partner, including the
execution of an instrument in the partnership name, binds the partnership if "the act is for apparently
carrying on in the ordinary course: (1) the partnership business." Id. art. 6132b-3.02(a)(1). If the act
of a partner is not apparently for carrying on the partnership business, an act of a partner binds the
partnership only if authorized by the other partners. Id. art. 6132b-3.02(b)(1).
The extent of authority of a partner is determined essentially by the same principles as those
measuring the scope of the authority of an agent. * * * As a general rule, each partner is an agent of
the partnership and is empowered to bind the partnership in the normal conduct of its business.
Tex.Rev.Civ. Stat. Ann. art. 6132b3.02(a). Generally, an agent's authority is presumed to be
coextensive with the business entrusted to his care. * * * An agent is limited in his authority to
such contracts and acts as are incident to the management of the particular business with which he is
entrusted. * * *
Winding up the partnership
A partner's duty of care to the partnership and the other partners is to act in the conduct and
winding up of the partnership business with the care an ordinarily prudent person would exercise in
similar circumstances. Tex.Rev.Civ. Stat. Ann. art. 6132b-4.04(c). During the winding up of a
partnership's business, a partner's fiduciary duty to the other partners and the partnership is limited to
matters relating to the winding up of the partnership's affairs. * * *
Appellant testified that he entered into the settlement agreement with IKON to save the
partnership a substantial amount of money. IKON's petition sought over $16,000 from the
partnership, and the settlement agreement was for $9,000; therefore, Appellant settled IKON's claim
for 43% less than the amount for which IKON sued the partnership.
Both Appellant and Appellee testified that the partnership "fell apart," "virtually was dead,"
and had to move elsewhere. Appellant testified that, because of the demise of the partnership
operations, the company for which the partnership was acting as an agent had reworked its system,
resulting in the partnership no longer being able to make any profit. The inability of the partnership
to continue its trucking business was an event requiring the partners to wind up the affairs of the
partnership. See Tex.Rev.Civ. Stat. Ann. art. 6132(b) 8.01(b)(2). It was no longer capable of
operating its business, and had moved its operations to Sherman, where the partners could begin to
dispose of the partnership's property.
187
The Act provides that a partner winding up a partnership's business is authorized, to the
extent appropriate for winding up, to perform the following in the name of and for and on behalf of
the partnership:
(1) prosecute and defend civil, criminal, or administrative suits;
(2) settle and close the partnership's business;
(3) dispose of and convey the partnership's property;
(4) satisfy or provide for the satisfaction of the partnership's liabilities;
*227 (5) distribute to the partners any remaining property of the partnership; and
(6) perform any other necessary act.
Id. art. 6132b-8.03(b).
Appellant accrued the IKON debt on behalf of the partnership when he secured the office
equipment for partnership operations, and he testified that he entered into the settlement with IKON
when the partnership was in its final stages and the partners were going their separate ways.
Accordingly, Appellant was authorized by the Act to settle the IKON lawsuit on behalf of the
partnership. See id. art. 6132b-8.03(b)(2), (4), (6).
*
*
*
APPELLEE'S LIABILITY FOR THE IKON DEBT
If a partner reasonably incurs a liability in excess of the amount he agreed to contribute in
properly conducting the business of the partnership or for preserving the partnership's business or
property, he is entitled to be repaid by the partnership for that excess amount. Tex.Rev.Civ. Stat.
Ann. art. 6132b-4.01(c). A partner may sue another partner for reimbursement if the partner has
made such an excessive payment. Id. art. 6132b-4.06(b)(2)(A).
With two exceptions not applicable to the facts of this case, all partners are liable jointly and
severally for all debts and obligations of the partnership unless otherwise agreed by the claimant or
provided by law. See id. art. 6132b-3.04. Because Wood Relo was sued for a partnership debt made
in the proper conduct of the partnership business, and Appellant settled this claim in the course of
winding up the partnership, he could maintain an action against Appellee for reimbursement of
Appellant's disproportionate payment. See id. arts. 6132b-4.01(c), -4.06(b)(2)(A).
ATTORNEY'S FEES
Appellant sought to recover the attorney's fees expended in defending the IKON claim, and
attorney's fees expended in the instant suit against Appellee. Testimony established that it was
necessary for Appellant to employ an attorney to defend the action brought against the partnership
by IKON; therefore, the attorney's fees related to defending the IKON lawsuit on behalf of Wood
Relo are a partnership debt for which Appellee is jointly and severally liable. As such, Appellant is
entitled to recover from Appellee one- half of the attorney's fees attributable to the IKON lawsuit.
The evidence established that reasonable and necessary attorney's fees to defend the IKON lawsuit
were $1725. [FN8] Therefore, Appellant is entitled to recover from Appellee $862.50.
188
FN8. Appellant's attorney testified that Appellant paid $2700 in attorney's fees to defend and
settle the IKON suit. However, the itemization and invoices introduced into evidence by
Appellant clearly indicate that $975 of the $2700 is attributable to the preparation and filing
of the instant suit against Appellee. Accordingly, that amount is not included in the
attorney's fees that directly relate to defending the IKON suit.
Appellant also seeks to recover the attorney's fees expended pursuing the instant lawsuit. See
Tex. Civ. Prac. & Rem.Code Ann. § 38.001(8) (authorizing recovery of attorney's fees in successful
suit under an oral contract); see also Atterbury v. Brison, 871 S.W.2d 824, 828 (Tex.App.Texarkana 1994, writ denied) (holding attorney's fees are recoverable by partner under section
38.001(e) because action against other partner was founded on partnership agreement, which was a
contract). We agree that Appellant is entitled to recover reasonable and necessary attorney's fees
incurred in bringing the instant lawsuit. Because we are remanding this case so the trial court can
determine the amount of pre- and post-judgment interest to be awarded to Appellant, we also remand
to the trial court the issue of the amount of attorney's fees due to Appellant in pursuing this lawsuit
against Appellee for collection of the amount paid to IKON on behalf of the partnership.
CONCLUSION
We hold the trial court erred in determining that Appellant did not have authority to
act for Wood Relo in defending, settling, and paying the partnership debt owed by Wood
Relo to IKON. Appellee is jointly and severally liable to IKON for $9,000, which represents
the amount Appellant paid IKON to defend and extinguish the partnership debt. [* * *] We
hold that Appellee is jointly and severally liable to Appellant for $1725, which represents the
amount of attorney's fees Appellant paid to defend against the IKON claim. We further hold
that Appellant is entitled to recover from Appellee reasonable and necessary attorney's fees
in pursuing the instant lawsuit. * * *
We reverse the judgment of the trial court. We render judgment that Appellee owes
Appellant $5362.50 (one-half of the partnership debt to IKON plus one-half of the corresponding
attorney's fees). We remand the case to the trial court for calculation of the amount of attorney's fees
owed by Appellee to Appellant in the instant lawsuit, and calculation of pre- and post-judgment
interest.
National Biscuit Company, Inc. v. Stroud
249 N.C. 467, 106 S.E.2d 692 (1959)
NATIONAL BISCUIT COMPANY, Inc.
v.
189
C. N. STROUD and Earl Freeman, trading as Stroud's Food Center.
No. 100
Supreme Court of North Carolina.
Jan. 28, 1959
*468 **693 The case was heard in the Superior Court upon the following agreed statement of facts:
On 13 September 1956 the National Biscuit Company had a Justice of the
Peace to issue summons against C. N. Stroud and Earl Freeman, a partnership trading
as Stroud's Food Center, for the nonpayment of $171.04 for goods sold and
delivered. After a hearing the Justice of the Peace rendered judgment for plaintiff
against both defendants for $171.04 with interest and costs. Stroud appealed to the
Superior Court: Freeman did not.
In March 1953 C. N. Stroud and Earl Freeman entered into a general
partnership to sell groceries under the name of Stroud's Food Center. Thereafter
plaintiff sold bread regularly to the partnership. Several months prior to February
1956 the defendant Stroud advised an agent of plaintiff that he personally would not
be responsible for any additional bread sold by plaintiff to Stroud's Food Center.
From 6 February 1956 to 25 February 1956 plaintiff through this same agent, at the
request of the defendant Freeman, sold and delivered bread in the amount of $171.04
to Stroud's Food Center. Stroud and Freeman by agreement dissolved the partnership
at the close of business on 25 February 1956, and notice of such dissolution was
published in a newspaper in Carteret County 6-27 March 1956.
The relevant parts of the dissolution agreement are these: All partnership
assets, except an automobile truck, an electric adding machine, a rotisserie, which
were assigned to defendant Freeman, and except funds necessary to pay the
employees for their work the week before the dissolution and necessary to pay for
certain supplies purchased the week of dissolution, were assigned to Stroud.
Freeman assumed the outstanding liens against the truck. Paragraph five of the
dissolution agreement is as follows: 'From and after the aforesaid February 25, 1956,
Stroud will be responsible for the liquidation of the partnership assets and the
discharge of partnership liabilities without demand upon Freeman for any
contribution in the discharge of said obligations.' The dissolution agreement was
made in reliance on Freeman's representations that the indebtedness of the
partnership was about $7,800 and its accounts receivable were about $8,000. The
accounts receivable at the close of business actually *469 amounted to $4,897.41.
Stroud has paid all of the partnership obligations amounting to $12,014.45,
except the amount of $171.04 claimed by plaintiff. To pay such obligations Stroud
exhausted all the partnership assets he could reduce to money amounting to
$4,307.08, of which $2,028.64 was derived from accounts receivable and $2,278.44
from a sale of merchandise and fixtures, and used over $7,700 of his personal money.
Stroud has left of the partnership assets only uncollected accounts in the sum of
$2,868.77, practically all of which are considered uncollectible.
190
Stroud has not attempted to rescind the dissolution agreement, and has
tendered plaintiff, and still tenders it, one-half of the $171.04 claimed by it.
**694 From a judgment that plaintiff recover from the defendants $171.04 with interest and costs,
Stroud appeals to the Supreme Court.
PARKER, Justice.
C. N. Stroud and Earl Freeman entered into a general partnership to sell groceries under the
firm name of Stroud's Food Center. There is nothing in the agreed statement of facts to indicate or
suggest that Freeman's power and authority as a general partner were in any way restricted or limited
by the articles of partnership in respect to the ordinary and legitimate business of the partnership.
Certainly, the purchase and sale of bread were ordinary and legitimate business of Stroud's Food
Center during its continuance as a going concern.
Several months prior to February 1956 Stroud advised plaintiff that he personally would not
be responsible for any additional bread sold by plaintiff to Stroud's Food Center. After such notice
to plaintiff, it from 6 February 1956 to 25 February 1956, at the request of Freeman, sold and
delivered bread in the amount of $171.04 to Stroud's Food Center.
In Johnson v. Bernheim, 76 N.C. 139, this Court said: 'A and B are general partners to do
some given business; the partnership is, by operation of law, a power to each to bind the partnership
in any manner legitimate to the business. If one partner go to a third person to buy an article on time
for the partnership, the other partner cannot prevent it by writing to the third person not to sell to him
on time; or, if one party attempt to buy for cash, the other has no right to require that it shall be on
time. And what is true in regard *470 to buying is true in regard to selling. What either partner does
with a third person is binding on the partnership. It is otherwise where the partnership is not general,
but is upon special terms, as that purchases and sales must be with and for cash. There the power to
each is special, in regard to all dealings with third persons at least who have notice of the terms.'
There is contrary authority. 68 C.J.S. Partnership s 143, pp. 578- 579. However, this text of C.J.S.
does not mention the effect of the provisions of the Uniform Partnership Act.
The General Assembly of North Carolina in 1941 enacted a Uniform Partnership Act, which
became effective 15 March 1941. G.S. Ch. 59, Partnership, Art. 2.
G.S. s 59-39 is entitled 'Partner Agent of Partnership as to Partnership Business', and
subsection (1) reads: 'Every partner is an agent of the partnership for the purpose of its business, and
the act of every partner, including the execution in the partnership name of any instrument, for
apparently carrying on in the usual way the business of the partnership of which he is a member
binds the partnership, unless the partner so acting has in fact no authority to act for the partnership in
the particular matter, and the person with whom he is dealing has knowledge of the fact that he has
no such authority.' G.S. s 59-39(4) states: 'No act of a partner in contravention of a restriction on
authority shall bind the partnership to persons having knowledge of the restriction.'
G.S. s 59-45 provides that 'all partners are jointly and severally liable for the acts and
obligations of the partnership.'
G.S. s 59-48 is captioned 'Rules Determining Rights and Duties of Partners.' Subsection (e)
thereof reads: 'All partners have equal rights in the management and conduct of the partnership
business.' Subsection (h) hereof is as follows: 'Any difference arising as to ordinary matters
connected with the partnership business may be decided by a majority of the partners; but no act in
191
contravention of any agreement between the partners may be done rightfully without the consent of
all the partners.'
**695 Freeman as a general partner with Stroud, with no restrictions on his authority to act within
the scope of the partnership business so far as the agreed statement of facts shows, had under the
Uniform Partnership Act 'equal rights in the management and conduct of the partnership business.'
Under G.S. s 59-48(h) Stroud, his co-partner, could not restrict the power and authority of Freeman
to buy bread for the partnership as a going concern, for such a purchase was an 'ordinary matter
connected with the partnership business,' for the purpose of its business and within its scope, because
in the very nature of things Stroud was not, and could not be, a majority of the *471 partners.
Therefore, Freeman's purchases of bread from plaintiff for Stroud's Food Center as a going concern
bound the partnership and his co- partner Stroud. The quoted provisions of our Uniform Partnership
Act, in respect to the particular facts here, are in accord with the principle of law stated in Johnson v.
Bernheim, supra; same case 86 N.C. 339.
In Crane on Partnership, 2d Ed., p. 277, it is said: 'In cases of an even division of the
partners as to whether or not an act within the scope of the business should be done, of which
disagreement a third person has knowledge, it seems that logically no restriction can be placed upon
the power to act. The partnership being a going concern, activities within the scope of the business
should not be limited, save by the expressed will of the majority deciding a disputed question; half of
the members are not a majority.'
Sladen, Fakes & Co. v. Lance, 151 N.C. 492, 66 S.E. 449, is distinguishable. That was a
case where the terms of the partnership imposed special restrictions on the power of the partner who
made the contract.
At the close of business on 25 February 1956 Stroud and Freeman by agreement dissolved
the partnership. By their dissolution agreement all of the partnership assets, including cash on hand,
bank deposits and all accounts receivable, with a few exceptions, were assigned to Stroud, who
bound himself by such written dissolution agreement to liquidate the firm's assets and discharge its
liabilities. It would seem a fair inference from the agreed statement of facts that the partnership got
the benefit of the bread sold and delivered by plaintiff to Stroud's Food Center, at Freeman's request,
from 6 February 1956 to 25 February 1956. See Blackstone Guano Co. v. Ball, 201 N.C. 534, 160
S.E. 769. But whether it did or not, Freeman's acts, as stated above, bound the partnership and
Stroud.
The judgment of the court below is
Affirmed.
RODMAN, J., dissents.
Meinhard v. Salmon
249 N.Y. 458, 164 N.E. 545 (1928)
192
MEINHARD
v.
SALMON et al.
Court of Appeals of New York.
Dec. 31, 1928.
*461 CARDOZO, C. J.
On April 10, 1902, Louisa M. Gerry leased to the defendant Walter J. Salmon the premises
known as the Hotel Bristol at the northwest corner of Forty-Second street and Fifth avenue in the
city of New York. The lease was for a term of 20 years, commencing May 1, 1902, and ending
April 30, 1922. The lessee undertook to **546 change the hotel building for use as shops and
offices at a cost of $200,000. Alterations and additions were to be accretions to the land.
Salmon, while in course of treaty with the lessor as to the execution of the lease, was in
course of treaty with *462 Meinhard, the plaintiff, for the necessary funds. The result was a joint
venture with terms embodied in a writing. Meinhard was to pay to Salmon half of the moneys
requisite to reconstruct, alter, manage, and operate the property. Salmon was to pay to Meinhard 40
per cent. of the net profits for the first five years of the lease and 50 per cent. for the years thereafter.
If there were losses, each party was to bear them equally. Salmon, however, was to have sole power
to 'manage, lease, underlet and operate' the building. There were to be certain pre- emptive rights for
each in the contingency of death.
The were coadventures, subject to fiduciary duties akin to those of partners. King v. Barnes,
109 N. Y. 267, 16 N. E. 332. As to this we are all agreed. The heavier weight of duty rested,
however, upon Salmon. He was a coadventurer with Meinhard, but he was manager as well. During
the early years of the enterprise, the building, reconstructed, was operated at a loss. If the relation
had then ended, Meinhard as well as Salmon would have carried a heavy burden. Later the profits
became large with the result that for each of the investors there came a rich return. For each the
venture had its phases of fair weather and of foul. The two were in it jointly, for better or for worse.
When the lease was near its end, Elbridge T. Gerry had become the owner of the reversion.
He owned much other property in the neighborhood, one lot adjoining the Bristol building on Fifth
avenue and four lots on Forty-Second street. He had a plan to lease the entire tract for a long term to
some one who would destroy the buildings then existing and put up another in their place. In the
latter part of 1921, he submitted such a project to several capitalists and dealers. He was unable to
carry it through with any of them. Then, in January, 1922, with less than four months of the lease to
run, he approached the defendant Salmon. The result was a new lease to the Midpoint Realty
Company, which is owned and controlled by Salmon, a lease covering the *463 whole tract, and
involving a huge outlay. The term is to be 20 years, but successive covenants for renewal will
extend it to a maximum of 80 years at the will of either party. The existing buildings may remain
unchanged for seven years. They are then to be torn down, and a new building to cost $3,000,000 is
to be placed upon the site. The rental, which under the Bristol lease was only $55,000, is to be from
$350,000 to $475,000 for the properties so combined. Salmon personally guaranteed the
performance by the lessee of the covenants of the new lease until such time as the new building had
been completed and fully paid for.
193
The lease between Gerry and the Midpoint Realty Company was signed and delivered on
January 25, 1922. Salmon had not told Meinhard anything about it. Whatever his motive may have
been, he had kept the negotiations to himself. Meinhard was not informed even of the bare existence
of a project. The first that he knew of it was in February, when the lease was an accomplished fact.
He then made demand on the defendants that the lease be held in trust as an asset of the venture,
making offer upon the trial to share the personal obligations incidental to the guaranty. The demand
was followed by refusal, and later by this suit. A referee gave judgment for the plaintiff, limiting the
plaintiff's interest in the lease, however, to 25 per cent. The limitation was on the theory that the
plaintiff's equity was to be restricted to one-half of so much of the value of the lease as was
contributed or represented by the occupation of the Bristol site. Upon cross-appeals to the Appellate
Division, the judgment was modified so as to enlarge the equitable interest to one-half of the whole
lease. With this enlargement of plaintiff's interest, there went, of course, a corresponding
enlargement of his attendant obligations. The case is now here on an appeal by the defendants.
Joint adventurers, like copartners, owe to one another, while the enterprise continues, the
duty of the finest *464 loyalty. Many forms of conduct permissible in a workaday world for those
acting at arm's length, are forbidden to those bound by fiduciary ties. A trustee is held to something
stricter than the morals of the market place. Not honesty alone, but the punctilio of an honor the
most sensitive, is then the standard of behavior. As to this there has developed a tradition that is
unbending and inveterate. Uncompromising rigidity has been the attitude of courts of equity when
petitioned to undermine the rule of undivided loyalty by the 'disintegrating erosion' of particular
exceptions. Wendt v. Fischer, 243 N. Y. 439, 444, 154 N. E. 303. Only thus has the level of
conduct for fiduciaries been kept at a level higher than that trodden by the crowd. It will not
consciously be lowered by any judgment of this court.
The owner of the reversion, Mr. Gerry, had vainly striven to find a tenant who would favor
his ambitious scheme of demolition and **547 construction. Beffled in the search, he turned to the
defendant Salmon in possession of the Bristol, the keystone of the project. He figured to himself
beyond a doubt that the man in possession would prove a likely customer. To the eye of an observer,
Salmon held the lease as owner in his own right, for himself and no one else. In fact he held it as a
fiduciary, for himself and another, sharers in a common venture. If this fact had been proclaimed, if
the lease by its terms had run in favor of a partnership, Mr. Gerry, we may fairly assume, would have
laid before the partners, and not merely before one of them, his plan of reconstruction. The preemptive privilege, or, better, the pre-emptive opportunity, that was thus an incident of the enterprise,
Salmon appropriate to himself in secrecy and silence. He might have warned Meinhard that the plan
had been submitted, and that either would be free to compete for the award. If he had done this, we
do not need to say whether he would have been under a duty, if successful in the competition, to hold
the lease so acquired for the *465 benefit of a venture than about to end, and thus prolong by
indirection its responsibilities and duties. The trouble about his conduct is that he excluded his
coadventurer from any chance to compete, from any chance to enjoy the opportunity for benefit that
had come to him alone by virtue of his agency. This chance, if nothing more, he was under a duty to
concede. The price of its denial is an extension of the trust at the option and for the benefit of the
one whom he excluded.
No answer is it to say that the chance would have been of little value even if seasonably
offered. Such a calculus of probabilities is beyond the science of the chancery. Salmon, the real
estate operator, might have been preferred to Meinhard, the woolen merchant. On the other hand,
194
Meinhard might have offered better terms, or reinforced his offer by alliance with the wealth of
others. Perhaps he might even have persuaded the lessor to renew the Bristol lease alone,
postponing for a time, in return for higher rentals, the improvement of adjoining lots. We know that
even under the lease as made the time for the enlargement of the building was delayed for seven
years. All these opportunities were cut away from him through another's intervention. He knew that
Salmon was the manager. As the time drew near for the expiration of the lease, he would naturally
assume from silence, if from nothing else, that the lessor was willing to extend it for a term of years,
or at least to let it stand as a lease from year to year. Not impossibly the lessor would have done so,
whatever his protestations of unwillingness, if Salmon had not given assent to a project more
attractive. At all events, notice of termination, even if not necessary, might seem, not unreasonably,
to be something to be looked for, if the business was over the another tenant was to enter. In the
absence of such notice, the matter of an extension was one that would naturally be attended to by the
manager of the enterprise, and not neglected altogether. At least, there was nothing in the situation
to give warning to any one that while the lease was still in being, there *466 had come to the
manager an offer of extension which he had locked within his breast to be utilized by himself alone.
The very fact that Salmon was in control with exclusive powers of direction charged him the more
obviously with the duty of disclosure, since only through disclosure could opportunity be equalized.
If he might cut off renewal by a purchase for his own benefit when four months were to pass before
the lease would have an end, he might do so with equal right while there remained as many years.
Cf. Mitchell v. Read, 61 N. Y. 123, 127, 19 Am. Rep. 252. He might steal a march on his comrade
under cover of the darkness, and then hold the captured ground. Loyalty and comradeship are not so
easily abjured.
* * *
We have no thought to hold that Salmon was guilty of a conscious purpose to defraud. Very
likely he assumed *468 in all good faith that with the approaching end of the venture he might
ignore his coadventurer and take the extension for himself. He had given to the enterprise time and
labor as well as money. He had made it a success. Meinhard, who had given money, but neither time
nor labor, had already been richly paid. There might seem to be something grasping in his insistence
upon more. Such recriminations are not unusual when coadventurers fall out. They are not without
their force if conduct is to be judged by the common standards of competitors. That is not to say that
they have pertinency here. Salmon had put himself in a position in which thought of self was to be
renounced, however hard the abnegation. He was much more than a coadventurer. He was a
managing coadventurer. Clegg v. Edmondson, 8 D. M. & G. 787, 807. For him and for those like
him the rule of undivided loyalty is relentless and supreme. Wendt v. Fischer, supra, Munson v.
Syracuse, etc., R. R. Co., 103 N. Y. 58, 74, 8 N. E. 355. A different question would be here if there
were lacking any nexus of relation between the business conducted by the manager and the
opportunity brought to him as an incident of management. Dean v. MacDowell, 8 Ch. Div. 345,
354; Aas v. Benham, [1891] 2 Ch. 244, 258; Latta v. Kilbourn, 150 U. S. 524, 14 S. Ct. 201, 37 L.
Ed. 1169. For this problem, as for most, there are distinctions of degree. If Salmon had received
from Gerry a proposition to lease a building at a location far removed, he might have held for
himself the privilege thus acquired, or so we shall assume. Here the subject-matter of the new lease
was an extension and enlargement of the subject-matter of the old one. A managing coadventurer
appropriating the benefit of such a lease without warning to his partner might fairly expect to be
reproached with conduct that was underhand, or lacking, to say the least, in reasonable candor, if the
195
partner were to surprise him in the act of signing the new instrument. Conduct subject to that
reproach does not receive from equity a healing benediction.
*469 A question remains as to the form and extent of the equitable interest to be allotted to the
plaintiff. The trust as declared has been held to attach to the lease which was in the name of the
defendant corporation. We think it ought to attach at the option of the defendant Salmon to the
shares of stock which were owned by him or were under his control. The difference may be
important if the lessee shall wish to execute an assignment of the lease, as it ought to be free to do
with the consent of the lessor. On the other hand, an equal division of the shares might lead to other
hardships. It might take away from Salmon the power of control and management which under the
plan of the joint venture he was to have from first to last. The number of shares to be allotted to the
plaintiff should, therefore, be reduced to such an extent as may be necessary to preserve to the
defendant Salmon the expected measure of dominion. To that end an extra share should be added ot
his half.
Subject to this adjustment, we agree with the Appellate Division that the plaintiff's equitable
interest is to be measured by the value of half of the entire lease, and not merely by half of some
undivided part. A single building covers the whole area. Physical division is impracticable along
the lines **549 of the Bristol site, the keystone of the whole. Division of interests and burdens is
equally impracticable. Salmon, as tenant under the new lease, or as guarantor of the performance of
the tenant's obligations, might well protest if Meinhard, Claiming an equitable interest, had offered
to assume a liability not equal to Salmon's, but only half as great. He might justly insist that the
lease must be accepted by his coadventurer in such form as it had been given, and not constructively
divided into imaginery fragments. What must be yielded to the one may be demanded by the other.
The lease as it has been executed is single and entire. If confusion has resulted from the union of
adjoining parcels, the trustee who consented to the *470 union must bear the inconvenience. Hart v.
Ten Eyck, 2 Johns. Ch. 62.
* * *
*472 The judgment should be modified by providing that at the option of the defendant Salmon
there may be substituted for a trust attaching to the lease a trust attaching to the shares of stock, with
the result that one-half of such shares together with one additional share will in that event be allotted
to the defendant Salmon and the other shares to the plaintiff, and as so modified the judgment should
be affirmed with costs.
ANDREWS, J. (dissenting).
* * *
Were this a general partnership between Mr. Salmon and Mr. Meinhard, I should have little
doubt as to the correctness of this result, assuming the new lease to be an offshoot of the old. Such a
situation involves questions of trust and confidence to a high degree; it involves questions of good,
will; many other considerations. As has been said, rarely if ever may one partner without the
knowledge of the other acquire for himself the renewal of *477 a lease held by the firm, even if the
new lease is to begin after the firm is dissolved. Warning of such an intent, if he is managing partner,
may not be sufficient to prevent the application of this rule.
196
We have here a different situation governed by less drastic principles. I assume that where
parties engage in a joint enterprise each owes to the other the duty of the utmost good faith in all that
relates to their common venture. Within its scope they stand in a fiduciary relationship.
* * *
What then was the scope of the adventure into which the two men entered? Y
It seems to me that the venture so inaugurated had in view a limited object and was to end at
a limited time. There was no intent to expand it into a far greater undertaking lasting for many years.
The design was to exploit a particular lease. Doubtless in it Mr. Meinhard had an equitable interest,
but in it alone. This interest terminated when the joint adventure terminated. There was no intent
that for the benefit of both any advantage should be taken of the chance of renewal--that the
adventure should be continued beyond that date. Mr. Salmon has done all he promised to do in
return for Mr. Meinhard's undertaking when he distributed profits up to May 1, 1922. Suppose this
lease, nonassignable without the consent of the lessor, had contained a renewal option. Could Mr.
Meinhard have exercised it? Could he have insisted that Mr. Salmon do so? Had Mr. Salmon done
so could he insist that the agreement to share losses still existed, or could Mr. Meinhard have
claimed that the joint adventure was still to continue for 20 or 80 years? I do not think so. The
adventure by its express terms ended on May 1, 1922. The contract by its language and by its whole
import excluded *479 the idea that the tenant's expectancy was to subsist for the benefit of the
plaintiff. On that date whatever there was left of value in the lease reverted to Mr. Salmon, as it
would had the lease been for thirty years instead of twenty. Any equity which Mr. Meinhard
possessed was in the particular lease itself, not in any possibility of renewal. There was nothing
unfair in Mr. Salmon's conduct.
* * *
The judgment of the courts below should be reversed and a new trial ordered, with costs in
all courts to abide the event.
**553 POUND, CRANE, and LEHMAN, JJ., concur with CARDOZO, C. J., for modification of the
judgment appealed from and affirmance as modified.
ANDREWS, J., dissents in opinion in which KELLOGG and O'BRIEN, JJ., concur.
Judgment modified, etc.
Day v. Sidley & Austin
394 F.Supp. 986 (D. D.c. 1975)
J. Edward DAY, Plaintiff,
v.
SIDLEY & AUSTIN et al., Defendants.
197
Civ. A. No. 74-1112.
United States District Court, District of Columbia.
May 29, 1975.
MEMORANDUM OPINION
PARKER, District Judge.
This case involves a dispute between a former senior partner of Sidley & Austin (S&A), a
Chicago law firm, and some of his fellow partners. The controversy centers around the merger
between that firm and another Chicago firm, Liebman, Williams, Bennett, Baird and Minow
(Liebman firm), and the events subsequent to the merger which ultimately led to plaintiff's
resignation. Plaintiff seeks damages claiming a substantial loss of income, damage to his
professional reputation and personal embarrassment which resulted from his forced resignation.
The matter is now before the Court on defendants' motion for summary judgment. After
consideration of the pre-and post-hearing memoranda of counsel, answers to interrogatories,
affidavits, and oral arguments, this Court concludes that defendants' motion for summary judgment
should be granted.
On July 1, 1974, plaintiff J. Edward Day filed a complaint in the Superior Court for the
District of Columbia against Sidley & Austin itself, *988 and 12 named partners (members of the
firm's executive committee) alleging breach of fiduciary duty, breach of contract, fraud and
misrepresentation, conspiracy, wrongful dissolution or ouster of co-partner and breach of partnership
agreement. Thereafter, the individual defendants who had then been served filed a petition for
removal in the United States District Court for the District of Columbia. [FN1] Federal jurisdiction
is conferred by reason of diversity of citizenship and the amount in controversy exceeding $10,000.
28 U.S.C. ' 1332. On October 8, 1974, this Court denied plaintiff's request for a remand to the
Superior Court and quashed service on those individual defendants who had been served with
Superior Court process after removal had become effective. Service against the partnership itself
was quashed. [FN2] As of this date, plaintiff has served eleven of the individual defendants.
As an initial response to the motion for summary judgment plaintiff asserts that the motion
should be denied because it is premature since 'extensive discovery' is contemplated including
depositions to supplement the interrogatories that have already been answered. In Washington v.
Cameron, 133 U.S.App.D.C. 391, 411 F.2d 705 (1969), the district court was reversed for
precipitously granting defendant's summary judgment motion on the basis of an ex parte
administrative determination of fact, before plaintiff had had a chance to conduct any discovery.
The caution and restraint dictated by Cameron was clearly warranted by its facts, the record and the
state of the pleadings. Such an approach is not mandated by the record in this proceeding. Here, the
plaintiff has conducted discovery by way of interrogatories, has filed several personal affidavits, and
defendants have submitted key documents such as the Partnership Agreements of Sidley & Austin
and the Memorandum of Understanding governing the proposed merger of S&A and the Liebman
firm. The partnership agreements and other essential undisputed facts and relevant documents
present questions of law and the Court sees no reason why the motion for summary judgment is
untimely. See E. P. Hinkel & Co. v. Manhattan Co., 506 F.2d 201 (D.C.Cir. 1974).
The Factual Background
The basic and material facts in this controversy may be briefly detailed.
198
Mr. Day was first associated with Sidley & Austin in 1938. His legal career was interrupted
by World War II service in the Navy and by his tenure with both the Illinois state government and as
Postmaster General of the United States. Upon leaving the federal government, he was instrumental
in establishing a Washington office for the firm in 1963. As a senior underwriting partner, he was
entitled to a certain percentage of the firm's profits, and was also privileged to vote on certain
matters which were specified in the partnership agreement. He was never a member of the executive
committee, however, which managed the firm's day-to-day business. He remained an underwriting
partner with Sidley & Austin from 1963 until his resignation in December 1972.
At some time between February 1972 and July 12, 1972, S&A's executive committee
explored the idea of a possible merger between that firm and the Liebman firm. S&A partners who
were not on the executive committee were unaware of the proposal until it was revealed at a special
meeting of its underwriting *989 partners on July 17, 1972. At that meeting, each partner present,
including plaintiff, voiced approval of the merger idea and favored pursuing further that possibility
in such manner as the executive committee of S&A might think proper or advisable, with the
understanding that any proposed agreement would first be submitted to all partners for their
consideration before any binding commitments were made. The merger was further discussed at
meetings of the underwriting partners held on September 6, September 22, September 26 and
September 28. The plaintiff received timely notice of the meetings but did not attend.
The final Memorandum of Understanding dated September 29, 1972 and the final amended
Partnership Agreement, dated October 16, 1972 were executed by all S&A partners, including
plaintiff. The Memorandum incorporated a minor change requested by plaintiff.
At a meeting of the executive committee of the combined firm on October 16, 1972, it was
decided that the Washington offices and the Washington office committees of the two predecessor
firms would be consolidated. The former chairmen of the Washington office committees of the two
firms were appointed co-chairmen of the new Washington Office Committee. [FN3]
In late October of 1972, the new Washington Office Committee recommended to the
Management Committee that a combined Washington Office be set up at 1730 Pennsylvania
Avenue, thus eliminating the old S&A Washington office in the Cafritz Building. A decision was
then made to move to the new location despite plaintiff's objections.
Mr. Day resigned from Sidley & Austin effective December 31, 1972 claiming that the
changes which occurred after the merger in the Washington Office-- the appointment of co-chairmen
and the relocation of the office-- made continued service with the firm intolerable for him.
Plaintiff has made certain allegations which are not conceded by defendants. As to these
matters, plaintiff's allegations have been given the benefit of all reasonable doubts and inferences.
[FN4]
Mr. Day contends that he had a contractual right to remain the sole chairman of the
Washington Office, and that the maintenance of this status was a condition precedent for his
rejoining the firm in 1963 and opening the Washington office. According to plaintiff, the decision to
appoint co-chairmen was made prior to the merger and defendants' concealment of that decision was
a material omission and without that prior information his vote of approval for the merger would not
have been given.
199
He further alleges that certain active misrepresentations about the results of the proposal also
had the effect of voiding the approval of the merger. These other alleged misrepresentations were:
(1) that no Sidley partner would be worse off in any way as a result of the merger, including
positions on committees;
(2) that two senior partners of the Liebman firm would soon be leaving law practice;
*990 (3) that the merged firm would drop representation of a certain Liebman client whose
interests might conflict with some Sidley clients;
(4) that the merger with Liebman would be advantageous to the Sidley partners and would
add to the standing and prestige of the firm;
(5) that all aspects of the merger had been exhaustively investigated by defendants; and
(6) that there were good, sound, objective reasons which made the merger highly desirable.
Plaintiff also alleges that the fact that the Liebman firm had been shopping around for a
merger partner for 10 years was concealed.
Events after the merger, allegedly void because of the mentioned omissions and
misrepresentations, inevitably led to plaintiff's resignation. The loss of his status as sole chairman of
the Washington office was viewed by plaintiff as a humiliating experience, especially as it was
accompanied by harassment by the defendants. Day points to the method of handling the relocation
of the consolidated firm as the most obvious manifestation of the defendants' intent to force his
resignation. In an affidavit submitted by plaintiff, he asserts that the process of approving the office
move entailed a series of meetings held and decisions made without consulting him, all in derogation
of his former status as the final decision maker for the S&A Washington office.
Defendants do not concede that misrepresentations or omissions tainted the approval of the
merger, nor do they admit engaging in harassment techniques intended to force plaintiff to resign.
The thrust of defendants' argument for summary judgment is that plaintiff's factual allegations are
not material because they fail to state a cause of action. Defendants contend that any possible taint
of plaintiff's vote in favor of the merger is of no consequence because only a majority, and not
unanimous consent, was required for the merger under the provisions of the partnership agreements.
Defendants also contend that any diminution of status as perceived by plaintiff cannot have any
legal consequences because he had no vested contractual right to remain the sole chairman. They
rely on the terms of the partnership agreements to support this defense. Under the agreements, the
Executive Committee had the authority to govern the composition of all other firm committees and
no special provisions had been made as to plaintiff's vested right in the Washington office.
An analysis of the adequacy of each of plaintiff's causes of action follows.
Fraud
* * *
The key misrepresentation which forms the basis of plaintiff's complaint is that no Sidley
partner would be worse off as a result of the merger. Plaintiff interpreted this to mean that he would
continue to serve as the sole chairman of the Washington Office and that he would wield the
commanding authority regarding such matters as expanding office space. It was the change in
plaintiff's status at the Washington Office which directly precipitated his resignation.
200
This misrepresentation regarding plaintiff's status cannot support a cause of action for fraud,
however, because plaintiff was not deprived of any legal right as a result of his reliance on this
statement. The 1970 S&A Partnership Agreement, [FN7] to which plaintiff was a party, sets forth in
some detail the relationships among the partners and the structure of the firm. No mention is made
of the Washington Office or plaintiff's status therein, whereas special arrangements are specified for
certain other partners. If chairmanship of the Washington Office was of the importance now
claimed, the absence of such a provision from the partnership agreement requires a measured
explanation which Mr. Day does not supply. Plaintiff's allegations of an unwritten understanding
cannot now be heard to contravene the provisions of the Partnership Agreement which seemingly
embodied the complete intentions of the parties as to the manner in which the firm was to be
operated and managed.
Nor can plaintiff have reasonably believed that no changes would be made in the Washington
Office since the S&A Agreement gave complete authority to the executive committee to decide
questions of firm policy, [FN8] which would clearly include establishment of committees and the
appointment of members and chairpersons. Having read and signed the *992 1970 and 1972 S&A
Partnership Agreements which implicitly authorized the Executive Committee to create, control or
eliminate firm committees, plaintiff could not have reasonably believed that the status of the
Washington Office Committee was inviolate and beyond the scope and operation of the Partnership
Agreements. Thus, since plaintiff had no right to remain chairman of the Washington Office, a
misrepresentation regarding his chairmanship does not form the basis for a cause of action in fraud.
Breach of Contract, Conspiracy and Wrongful Dissolution or Ouster of Partner
As shown above, plaintiff had no contractual right to maintain his authority over the
Washington Office, and therefore he has not made out a case for breach of contract. Since he did not
have a legal right to maintain his status in the firm, the conspiracy charge [FN9] amounts to no more
than an internal power sweep, executed and permitted under the provisions of the partnership
agreement for which there is no legal remedy.
Similarly, there was no wrongful dissolution or ouster of plaintiff from the partnership
because the merger of the two firms was authorized under the terms of the S&A partnership
agreement. By the terms of the agreement, the executive committee was entrusted with 'all questions
of Firm policy.' [FN10] Additionally, partners could be admitted and severed from the firm and the
partnership agreement could be amended by majority approval by the partners. [FN11] The merger
of S&A with the Liebman firm could be considered either as the admission of new partners or the
making of a new or amended agreement, and thus majority approval was all that was required, and a
post facto change in plaintiff's vote would be of no effect.
Plaintiff contends that the merger was such a fundamental change in the nature of the
partnership that unanimous approval was required and that had he known the personal consequences
of the merger, he would have exercised a 'veto' and the events which forced him to resign would not
have occurred. This theory, however, runs counter to the prevailing law of partnership. Generally,
common law and statutory standards concerning relationships between partners can be overridden by
an agreement reached by the parties themselves. [FN12] The Uniform Partnership Act (adopted both
in Illinois and the District of Columbia) [FN13] specifically provides that statutory rules governing
the rights and duties of the partners are 'subject to any agreement between them.' [FN14]
201
Nr do the cases cited by plaintiff support the proposition that unanimous consent is needed
for the merger of partnerships. In McCallum v. Asbury, 238 Or. 257, 393 P.2d 774 (1964), a partner
sued to dissolve a partnership of medical doctors. Plaintiff challenged the amendment of the
agreement by majority vote which provided for management by an executive committee. The court
held that a majority could approve this change, even though the agreement provided that all partners
were to have an equal share in management. Likewise, Fortugno v. Hudson Manure Co., 51
N.J.Super. 482, 144 A.2d 207 (1958), affords little support.
Fortugno basically held that a partner could not be effectively changed into a stockholder in a
corporation without his consent. In that case, there had been no prior contract that the partnership
agreement could be amended by majority vote. The S&A Agreement, however, dealt specifically
with incorporation of the firm, providing that incorporation would be effective if approved by threefourths of the partners. Merger was a less dramatic change than incorporation, which would have
eliminated the partnership entity. It cannot reasonably be argued, therefore, that the merger fell
outside the purview of the Agreement, requiring unanimous consent for its approval. Amendments to
the Agreement and admission of partners required only majority approval, and plaintiff's proposed
'veto power' is nothing more than an expressed hope, incompatible with and contrary to the overall
scheme and provisions of the S&A Agreement.
Breach of Fiduciary Duty
Plaintiff also alleges that defendants breached their fiduciary duty by beginning negotiations
on a merger with the Liebman firm without consulting the other partners who were not on the
Executive Committee and by not revealing information regarding changes that would occur as a
result of the merger, such as the co-chairmen arrangement for the Washington office. An
examination of the case, law on a partner's fiduciary duties, however, reveals that courts have been
primarily concerned with partners who make secret profits at the expense of the partnership. [FN15]
Partners have a duty to make a full and fair disclosure to other partners of all information which
may be of value to the partnership. 1 Rowley on Partnership ' 20.2, at 512-13 (2d ed. 1960). The
essence of a breach of fiduciary duty between partners is that one partner has advantaged himself at
the expense of the firm. Id. The basic fiduciary duties are: 1) a partner must account for any profit
acquired in a manner injurious to the interests of the partnership, such as commissions or purchases
on the sale of partnership property; 2) a partner cannot without the consent of the other partners,
acquire for himself a partnership asset, nor may he divert to his own use a partnership opportunity;
and 3) he must not compete with the partnership within the scope of the business. See Crane &
Bromberg, Law of Partnership, ' 68, at 389-91 (1968).
A typical case of breach of fiduciary duty and fraud between partners cited by plaintiff is
Bakalis v. Bressler, 1 Ill.2d 72, 115 N.E.2d 323 (1953). There, a defendant partner has
surreptitiously purchased the building which housed the partnership's business and was collecting
rents from the partnership for his own profit. What plaintiff is alleging in the instant case, however,
concerns failure to reveal information regarding changes in the internal structure of the firm. No
court has recognized a fiduciary duty to disclose this type of information, the concealment of which
does not produce any profit for the offending partners nor any financial *994 loss for the partnership
as a whole. Not only was there no financial gain for defendants, but the remaining partners did not
acquire any more power within the firm as the result of the alleged withholding of information from
plaintiff. They were already members of the executive committee and as such had wideranging
202
authority with regard to firm management. Thus plaintiff's claim of breach of fiduciary duty must
fail.
What this Court perceives from Mr. Day's pleadings and affidavits is that he may be suffering
from a bruised ego but that the facts fail to establish a legal cause of action. As an able and
experienced attorney, it should have been clear that the differences and misunderstandings which
developed with his former partners were business risks of the sort which cannot be resolved by
judicial proceedings. Mr. Day, a knowledgeable, sophisticated and experienced businessman and a
responsible member of a large law firm, bound himself to a well-defined contractual arrangement
when he executed the 1970 [FN16] Partnership Agreement. The contract clearly provided for
management authority in the executive committee and for majority approval of the merger with the
Liebman firm. Even if plaintiff had voted against the merger, he could not have stopped it.
Furthermore, the Partnership Agreement, to which he freely consented denies the existence of a
contractual right to any particular status within the firm for plaintiff. If plaintiff's partners did indeed
combine against him, it is clear that their alleged activities did not amount to illegality, and that any
personal humiliation or injury was a risk that he assumed when he joined with others in the
partnership.
Accordingly it is this 29th of May, 1975
Ordered that defendants' motion for summary judgment is granted and the complaint in this
proceeding is dismissed with prejudice.
* * *
Clevenger v. Rehn
2003 WL 718412 (Neb.App.)
NOTICE: THIS OPINION IS NOT DESIGNATED FOR PERMANENT PUBLICATION AND
MAY NOT BE CITED EXCEPT AS PROVIDED BY NEB. CT.R. OF PRACT. 2E.
Court of Appeals of Nebraska.
Sandra K. CLEVENGER, Appellee and Cross-Appellant,
v.
Vicky L. REHN, Appellant and Cross-Appellee.
Mar. 4, 2003.
SIEVERS and INBODY, Judges.
SIEVERS, Judge.
Sandra K. Clevenger brought suit against Vicky L. Rehn, seeking dissolution of their
partnership, an accounting, and damages, and Rehn counterclaimed for the same. The district court
for Red Willow County, Nebraska, entered judgment in favor of Clevenger and against Rehn in the
203
amount of $9,468, finding that their partnership "effectively terminated" on February 19, 1999, and
that Rehn continued the business thereafter as a sole proprietorship. The trial court's judgment was
based on Clevenger's accountant's opinion of the value of the parties' capital accounts at the end of
February 1999. Rehn appeals, and we reverse, because while the partnership dissolved in February,
it was not wound up or terminated until later.
FACTUAL BACKGROUND
In early to mid-August 1998, Clevenger and Rehn, who are sisters, began work on opening
an antique shop in McCook, Nebraska, which shop would include a "lunchroom" or "tearoom." They
decided to form an equal partnership, sharing "equal responsibilities [and] equal profits" in a
business called The Porcelain Rose Tearoom (Porcelain Rose). While they prepared a written
"Partnership Agreement," it was never signed by either party.
By the end of August 1998, Clevenger and Rehn started attending antique auctions and craft
fairs in order to buy supplies and inventory for the Porcelain Rose. Around this same time period, the
parties also opened a Porcelain Rose bank account at AmFirst National Bank (bank) in McCook.
Clevenger initially contributed $300 to the account, and Rehn contributed $230. Expenses started to
mount, so Clevenger decided to cash in an IRA worth approximately $5,000, and she deposited the
entire amount in the Porcelain Rose account.
On November 15, 1998, Clevenger and Rehn entered into an agreement for a lease until midAugust of the following year with McCook Townhouse, Inc. (Townhouse). Clevenger and Rehn
agreed to rent two small rooms on the main floor of the Townhouse building for their business. The
front room was the sales room, where the parties sold homemade crafts, figurines, woodwork, gifts,
baskets, and antiques, and the back room was where the parties provided "two dinner hours a day
five days a week" in a room with four tables for four people each.
In addition to purchasing inventory for the business, the parties contributed some of their
own antiques and crafts. Clevenger also provided utensils, pans, and cookbooks, and she purchased a
deep freeze, a buffet, a kitchen sink, faucets, and other miscellaneous items for the kitchen out of her
own personal bank account. On February 2, 1999, the sales portion of the Porcelain Rose opened. A
little over a week later, on February 11, the parties realized that they were going to have to borrow
some money in order to continue operating the business, so they jointly borrowed $5,034 from the
bank, and the bank deposited the entire amount in the Porcelain Rose account.
On February 16, 1999, the tearoom section of the Porcelain Rose opened. Approximately 2
days later, on February 18, Clevenger and Rehn got into an argument at the shop regarding who was
going to be the cook and who was going to be the "out front" person dealing with the customers.
Clevenger, "rather than fight with [Rehn] in front of the customers," walked out of the kitchen on
two separate occasions that day to have "a couple of cigarettes" and to "cool off." Clevenger testified
that after work, she went home and talked with her husband about getting out of the partnership
altogether.
The next day, on February 19, 1999, when Clevenger came back to work at approximately
8:30 a.m., both parties were still upset about the previous day's argument, so Clevenger decided to
204
leave and stated to Rehn, "I'm going home." Clevenger testified that as she left, she took her
cookbooks, the master inventory sheet, and her smokeless ashtray. Rehn testified that Clevenger did
not come back that day, so Rehn and a waitress at the Porcelain Rose served lunch.
Rehn testified that during the day on which Clevenger walked out, the wind was blowing
"really hard," and it blew the front door of the shop back and into an antique trunk situated at the
front of the store. This caused the key, which was in the door, to snap off. Rehn and her husband
subsequently replaced the locks that evening. Clevenger testified that later on that night, she returned
to the shop and found that the locks had been changed and that she could not obtain entry into the
store. Clevenger testified that on February 21, 1999, she came back to the store with her husband to
obtain various store receipts and to ask for a key. Rehn denied that Clevenger asked for a key on that
day or any other. Clevenger also testified that she intended on returning to work after she left on
February 19, because she "had an interest in the business." This testimony is apparently designed to
assign some sort of "blame" for Clevenger's departure from the Porcelain Rose.
On February 22, 1999, Rehn closed the Porcelain Rose bank account and transferred the
entire balance, $3,096.83, to her personal account to prevent Clevenger from incurring any
additional liabilities. A few days later, Rehn transferred the entire balance to a new Porcelain Rose
account. Around this same time period, Clevenger and Rehn attempted to resolve their differences
regarding the partnership. Both parties obtained legal representation, and after initial negotiations, a
meeting was held with both parties and their counsel. While some of Clevenger's personal items
were returned to her at this meeting, the record reflects that a resolution which would equate to a
termination of the partnership was not obtained. Clevenger also testified that she received a letter
from Rehn around this same time period, wherein Rehn offered to buy out Clevenger's portion of the
business; however, nothing resulted from it.
On April 29, 1999, Clevenger received by mail a letter entitled "Statement of Dissolution,"
which stated in pertinent part:
Vickie [sic] Rehn, a partner in The Porcelain Rose, a general partnership consisting of Vickie [sic]
Rehn, Murray Rehn and Sandra Clevenger, with its place of business in Red Willow County,
Nebraska, hereby makes this statement of dissolution and confirms that the aforementioned
partnership dissolved effective February 19, 1999, and is winding up its business.
The letter was signed by Rehn and dated April 29, 1999. A day later, on April 30, a "Notice"
was published in the McCook Gazette newspaper, which stated:
Notice To Whom It May Concern: Vicky Rehn and Sandra Clevenger ceased operating The
Porcelain Rose Tea Room as Partnership effective 2/19/99.
The Porcelain Rose Tea Room has been operated as a sole proprietorship by Vicky Rehn since that
date. Sandra Clevenger has no authority to act on behalf of Vicky Rehn DBA The Porcelain Rose
Tea Room effective 2/19/99.
Rehn testified that the notice in the newspaper was placed on the advice of her attorney to
protect her from Clevenger's buying items on the business account. As will be detailed later, under
partnership law, the two documents are inconsistent with each other. Approximately a month later,
205
on May 31, 1999, Rehn shut down the Porcelain Rose and transported most of the shop inventory to
her garage for storage, where it remained as of the trial date. Some of the fixtures apparently remain
at the Townhouse building.
LAWSUIT AND TRIAL
On November 4, 1999, Clevenger filed a petition in the Red Willow County District Court
seeking (1) dissolution of the Porcelain Rose partnership; (2) payment equal to Clevenger's capital
contribution to the partnership; (3) one- half share of all partnership profits and inventory; (4) an
accounting of all dealings and transactions of the partnership; and (5) sale of any remaining
partnership property, with the proceeds to be divided equally between the parties. Rehn answered
and counterclaimed for essentially the same relief.
Trial was had on August 11, 2000. Clevenger testified that after she walked out of the store
on February 19, 1999, she had absolutely no involvement in the Porcelain Rose; she paid no bills,
sold no merchandise, purchased no inventory, obtained no profits, and withdrew no money from the
business account, but she felt she still had an interest in the Porcelain Rose. She also testified that
Rehn solely retained the entire shop inventory after February 19, and therefore Clevenger should be
entitled to approximately $10,000 after the dissolution and termination of the partnership.
Robert C. McChesney, a certified public accountant, testified on behalf of Clevenger.
McChesney stated that on February 28, 1999, the total asset value of the Porcelain Rose was
$20,803, of which $17,550 was in supplies and inventory, and the balance was cash in the bank.
McChesney further stated that Clevenger's equity in the partnership as of that date was $9,468 and
that Rehn's was $6,335. McChesney made a special point of making it clear that he was not opining
that Rehn should pay Clevenger $9,468--which incidentally is the amount of the trial court's
judgment in Clevenger's favor against Rehn. On cross- examination, McChesney testified that his
totals did not take into consideration any "winding up" of the partnership. McChesney's valuation
came from his review of materials provided by the parties and their attorneys, and he cut off the
valuation as of the end of February and did not take into consideration what happened thereafter with
the business.
Rehn testified that she did not think that Clevenger permanently left the business partnership
on February 19, 1999. Rehn stated, "I didn't think that [Clevenger] could walk away from it. We had
a loan, we had bills, we had insurance, we had inventory, [and] we had food that was perishable."
On cross-examination, Rehn testified that after February 19, 1999, she continued serving
meals, ordered more inventory, and continued to make merchandise sales for the Porcelain Rose. She
further testified that she obtained the assistance of her cousin and another sister to help run the shop.
Rehn continued to pay rent as well as make the monthly loan payments to the bank. Her undisputed
evidence was that she had reduced the loan balance from $5,000 in February to $2,748 as of the date
of trial, August 11, 2000.
Ron Smith, a certified public accountant, testified on behalf of Rehn. Smith's valuation used
many of the same documents as did McChesney, as well as the valuation prepared by McChesney,
but he ran his calculation out to August 31, 1999, the end of the partnership's first fiscal year, even
206
though no business had been conducted after May 31. In Smith's testimony, Rehn's capital account in
the partnership was $4,695, whereas Clevenger's capital account was a negative $3,016. Smith
testified that he took into consideration the cost of goods and sales and that his capital account
figures included the contributions of the parties as well as the "statement of revenues and expenses,"
which revealed that for the fiscal year ending August 31, the Porcelain Rose lost $19,640.
McChesney did not address whether the partnership was making or losing money.
On October 5, 2000, the trial court made the following orders and findings:
1. [Clevenger] and [Rehn] formed a partnership known as the "Porcelain Rose." [Clevenger] and
[Rehn] each contributed time and property to the partnership. [Clevenger] also contributed monies
consisting of a few hundred dollars and an additional $5,000.00 from an I.R.A. [Rehn] contributed
a few hundred dollars and the parties obtained a loan of $5,000.00 from the AmFirst Bank.
2. The parties opened for business on February 2, 1999 and on February 19, 1999, [Clevenger]
walked out of the business effectively terminating the partnership. [Rehn] continued to operate the
business until 5/31/99 and closed the business on that date.
3. [Rehn] published a notice of the partnership termination, showing that the partnership
terminated on 2/19/99 and was operated as a sole proprietorship since that date (see Ex. 5).
4. The other evidence presented shows that [Rehn] continued to produce food items and inventory
for resale after 2/19/99 and the court is convinced that [Rehn] intended to operate the business as a
sole proprietorship and not just wind down the affairs of a business that ran only for a short period
of time.
5. The court finds based upon the evidence that the partnership terminated as of 2/19/99 and that is
the date to be used for determining each part[y's] share.
6. The expert for [Clevenger] valued the business as of 2/19/99, the expert for [Rehn] valued the
business as of 8/31/99, a date that appears to have little, if any, relevance to any significant date for
[Clevenger] or [Rehn].
7. The court finds, based upon the evidence presented, that the partnership should be valued at the
date of 2/19/99 and the partnership's shares determined as of that date.
8. [Clevenger]'s expert did just that and in his opinion the value of [Clevenger]'s interest as of
2/19/99 was $9,468.00.
9. The court enters judgment in favor of [Clevenger] and against [Rehn] in the amount of
$9,468.00 plus interest at the rate of 7.241% per annum until paid in full. The costs of the action
are taxed to [Rehn]. The court orders each party to pay his or her own attorney fees.
*
*
*
ANALYSIS
When Did Porcelain Rose Partnership "Terminate"?
In Rehn's first four assignments of error, she argues that the trial court erred in finding that
the general partnership between Clevenger and Rehn in the Porcelain Rose "terminated" on February
19, 1999. Specifically, Rehn asserts that after Clevenger left the store on February 19, the Porcelain
Rose partnership dissolved; however, the partnership was not terminated until the "winding up" of
the partnership affairs was completed. After our de novo review, we agree. Our reasoning follows.
207
Partnerships are formed by the mutual agreement of all partners, and may be altered,
modified, or dissolved by like agreement. 59A Am.Jur.2d Partnership § 823 (1987). * * * In the
present case, Clevenger and Rehn orally agreed to form the Porcelain Rose as an equal partnership in
which they would each work, and they would share equally.
The first step in the analysis of this case involves the dissolution of the Porcelain Rose.
Under Nebraska law, the term "dissolution" does not signify the end of a partnership's legal
existence. Essay v. Essay, supra. Dissolution, according to Neb.Rev.Stat. § 67-329 (Reissue 1996),
is simply a change in the relationship of the partners "caused by any partner ceasing to be associated
in the carrying on as distinguished from the winding up of the business." This is clearly an apt
description of the Clevenger's departure from the Porcelain Rose, regardless of reason or fault, and
we do not need to fix blame for this situation in order to decide the case. Upon dissolution, the
partnership is not terminated but continues until the winding up of partnership affairs is completed.
Essay v. Essay, supra. See, also, Bass v. Dalton, 218 Neb. 379, 381, 355 N.W.2d 225, 227 (1984)
("dissolution of a partnership is but a preparatory step to its termination; a partnership continues after
dissolution.") Neb.Rev.Stat. § 67-331 (Reissue 1996) of the Uniform Partnership Act (UPA), as
enacted in Nebraska, provides the following: "Dissolution [of a partnership] is caused: (1) Without
violation of the agreement between the partners ... (b) By the express will of any partner when no
definite term or particular undertaking is specified ....)"
The evidence reveals that there was no definite term or particular undertaking specified in the
oral partnership agreement, or even in the unsigned written agreement, which would have restricted
either Clevenger or Rehn from dissolving the partnership at will. Therefore, based upon our de novo
review, and using the uncontroverted facts of this case, the partnership between Clevenger and Rehn
in the Porcelain Rose dissolved on February 19, 1999.
We find that after February 19, 1999, Clevenger ceased to be associated with the business
and did not carry her share of the workload as she had agreed to do. Thus, there was a change in the
relationship of the partners, which in legal terms is a dissolution.
One of the keys to this appeal is the fact the terms "dissolution," "winding up," and
"termination," as employed by the Nebraska UPA, are not synonyms and have different meanings. *
* * Dissolution neither terminates the partnership nor completely ends the authority of the partners.
See Essay v. Essay, supra. The order of events to end a partnership as a business entity is (1)
dissolution, (2) winding up, and (3) termination. * * * It is not until "termination," after the
"winding up" of the partnership is completed, that the partnership's legal existence ends and
authority of the partners is extinguished. See id. Therefore, the trial court's finding that the
partnership was "effectively terminated" on February 19, 1999, does not accurately reflect
partnership law, because there was simply no evidence that the partnership was also wound up on
that date. In fact, the evidence shows that the two parties got together with their attorneys several
weeks after Clevenger's departure and tried to resolve the outstanding issues (i .e., wind up), but they
were unsuccessful.
The Nebraska UPA refers to "winding up" in several sections, but neither Nebraska case law
nor the Nebraska UPA defines the term "winding up" of partnership affairs; but it is a concept which
we think largely "speaks for itself." Winding up is the process by which the business affairs of the
208
partnership are brought to an end, which would involve such things as paying creditors, collecting
accounts payable, disposing of inventory and the property used in the business, including converting
such to cash and then dividing any remaining property or cash among the partners, or if there were
no equity, arranging for the payment of the debts of the partnership. * * * All of these things needed
to be done when Clevenger left on February 19, 1999. The district court's decision fails to recognize
this reality. Because the record reveals, and our holding confirms, that the Porcelain Rose
partnership dissolved on February 19, under Nebraska law, both Clevenger and Rehn were entitled
to an accounting at that time. See, Neb.Rev.Stat. § 67-343 (Reissue 1996); Walker v. Walker, supra.
Obviously, resort to the court for such accounting occurs when the parties cannot do on their own
what the law requires to be done to end the legal entity that is a partnership.
It appears that Clevenger was of the mistaken impression that if she "bowed out" of the
business, that Rehn would simply "buy her out" as of February 19, 1999, when Clevenger "quit" the
Porcelain Rose partnership. However, the winding up of a partnership is not that simple, unless the
remaining partner agrees to such, which did not happen. Moreover, it appears to us that the trial
judge's decision rests in no small part on the notice published in late April, in which Rehn said that
as of February 19, she was operating the Porcelain Rose as a sole proprietorship. But, in the notice
sent to Clevenger at the same time, Rehn said she was winding up. But, again, a partnership does not
terminate (and convert into another legal entity such as a sole proprietorship) unless it has first been
wound up and terminated. Thus, the notice of April 30 was of no real meaning unless the Porcelain
Rose partnership had been wound up, which it obviously had not. To the extent that Rehn thought
the business was now hers, that notion was as faulty as Clevenger's thought that if she abandoned the
enterprise, Rehn would have to "buy her out." By the time of trial, Rehn's testimony was that she was
winding up during the time after February 19 until the closing on May 31. At trial, Rehn made no
claim that the business was being operated as a sole proprietorship after February 19. The fact that
after February 19, Rehn purchased more inventory and food supplies for the store, continued
merchandise sales, obtained the help of her cousin and her sister to assist, including serving meals, is
simply evidence that the business had not terminated, and we take it simply as evidence of the
windup process. Admittedly, she changed the locks on the business and created a new business bank
account and transferred funds to it from the old partnership account, but these things to us simply
show that Rehn (as is likewise true of Clevenger) was unaware of the legal ramifications of the entity
which the parties created and did not know how to legally end what the parties had started. Rehn
closed the Porcelain Rose on May 31, and the remaining inventory of the partnership ended up in her
garage--where it remained as of the time of trial. The trial court's decision fails to expressly resolve
the question of the disposition of the inventory, although by implication, we suspect that the judge
intended that it be awarded to Rehn.
There is no set period of time within which a winding up must be accomplished. See
Schoeller v. Schoeller, 497 S.W.2d 860, 867 (Mo.App.1973) ("dissolved partnerships may continue
in business for a short, long or indefinite period of time, so long as the rights of creditors are not
jeopardized and so long as none of the partners insist on a winding up and final termination of the
partnership business"). In Centerre Bank of Kansas City v. Angle, 976 S.W.2d 608 (Mo.App.1998),
the plaintiff also brought an action, inter alia, for dissolution of a partnership and an accounting. The
Missouri Court of Appeals stated: "Where ... the partnership business was wound up rather than
continued, then each partner's net interest is determined upon the winding up of the partnership and
'the accounting must encompass the life of the partnership down to and including the winding up of
209
the business.' " (Emphasis supplied.) 976 S.W.2d at 618-19 (quoting Stein v. Jung, 492 S.W .2d 139
(Mo.App.1973)).
In the instant case, the trial judge based his decision on the testimony of McChesney
(Clevenger's certified public accountant) that as of the end of February 1999, the parties' equity was
$9,468 for Clevenger and $6,335 for Rehn. But, these figures have no meaning if the partnership had
not been wound up then. Having concluded that the trial court's finding that the partnership was
terminated as of February 19 was wrong, we obviously reject the use of McChesney's accounting.
Thus, we turn to the testimony of Rehn's accountant Smith, and we recall that Smith relied on
essentially the same "pile of paper" generated by the parties as did McChesney, albeit it was updated
to reflect what happened after Clevenger left.
We point out that we have no illusion, nor should the parties, that "perfect justice and equity"
will be accomplished here. We are constrained by a confusing record, the nature of this small
business which was a family partnership (which has now resulted in two sisters no longer speaking
to each other, despite living within several houses of each other), and the less than precise nature of
the records, as well as highly uncertain valuations of numerous miscellaneous small items of
merchandise brought by the parties into the business or purchased for use in it. Finally, while two
accountants testified, and it is clear that they each prepared a written report, their reports were not
offered in evidence, and we are somewhat handicapped by their absence. Nonetheless, by using our
powers of de novo review in an equitable case, we believe the case can be resolved.
The trial court was critical of Smith's valuations, saying that his date of August 31, 1999, had
"little, if any, relevance to any significant date" for either party. We disagree. Smith said that he ran
his calculation out to this date because it was the end of the partnership's first fiscal year, explaining
that he did so even though nothing really happened after the business closed for good on May 31.
We find this makes perfect sense, given that the parties were never able to wind up the partnership or
properly accomplish (e .g., by agreement as part of a wind up) a conversion of the business to a sole
proprietorship, even though Rehn might have mistakenly thought she had done so, or used that term
upon the advice of her former counsel.
Because Smith's final figures are unchallenged by Clevenger (other than being on an
irrelevant date), we need not detail his methodology, except that we understand his testimony to be
that he used much of the same data as did McChesney, but Smith factored in the expenses and
receipts for March, April, and May, 1999, and he produced and relied upon a "statement of revenues
and losses"--showing a loss of $19,640. Unless the partnership was dissolved, wound up, and
terminated on February 19, 1999, this is a loss which the parties must share and Clevenger cannot
avoid. The trial court's judgment in favor of Clevenger ignores this fundamental principle of
partnerships by finding that the Porcelain Rose partnership was "effectively terminated" on February
19, a finding that of necessity means that the trial judge concluded that there had been a winding up
on that date--a finding which is completely at odds with the record.
Clearly, both Clevenger and Rehn requested a judicial accounting. Pursuant to Neb.Rev.Stat.
§ 67-337 (Reissue 1996), the parties to a partnership may obtain an accounting by the court. The
trial court, in this case, rendered only a monetary judgment, said nothing about an accounting, and
did not deal with whether the remaining inventory should be sold, and if so, how and what should be
210
done with the proceeds.
OUR ACCOUNTING
Smith puts Clevenger's capital account at a negative $3,016 and Rehn's at a positive $4,695
as of August 31, 1999, which accounting we assume reflects the loss the partnership ultimately
incurred, the inventory and fixtures remaining in Rehn's possession, and the fact that at the outset,
the parties made disparate contributions. We are forced to make such assumptions because both
Smith and McChesney testified to conclusionary capital account figures without objection and
without any offer into evidence of their reports. To complete the accounting, we must add the two
capital accounts together, which produces a positive $1,679 ($4,695 minus a negative $3,016).
Clevenger testified that "it was going to be a partnership, an equal partnership, with equal
responsibilities, equal profits. The whole thing, it was split in half." Thus, we split "it" in half and
treat both parties equally. Thus, there is a positive $1,679 left, which presumably is represented by
the inventory and fixtures, meaning that in this equal partnership, each party is entitled to $839.50-but only in theory. There is no money left in the partnership, and they agreed to share profits, and
losses, equally. Any money must come from either the conversion of the fixtures and the inventory
to cash, an agreed-upon division of the property, or a forced liquidation under the supervision of the
court. In settling upon our resolution of this case, we recall the holdings of Janke v. Chace, 1
Neb.App. 114, 115, 487 N.W.2d 301, 302 (1992):
Where a situation exists which is contrary to the principles of equity and which can be redressed
within the scope of judicial action, a court of equity will devise a remedy to meet the situation....
*10 A court of equity which has acquired jurisdiction of a matter for any purpose will retain
jurisdiction for the purpose of administering complete relief with respect to the subject matter....
Equity looks through forms to substance; a court of equity goes to the root of a matter and is not
deterred by forms....
Where a court dealing in equity has property or money under its jurisdiction, it has power to
appropriately direct its application in order to carry out justice.
Thus, in keeping with the teachings of Janke v. Chace, supra, we devise a remedy which
follows. First, we reverse the trial court's judgment because it does not reflect partnership law or the
evidence. Next, the inventory in Rehn's garage and the fixtures at the Townhouse building, where
space was leased for the business and where some items still remain, shall be disposed of by sale-relief both parties requested and which was unaddressed by the district court either at trial or upon
remand.
Recognizing the reality that this failed small business partnership is "broke," we provide
that if within 30 days of our mandate, the parties have agreed upon, and completed, a division of the
inventory and other property on their own and have filed mutual satisfactions of judgment, the sale
shall not occur. See Parker v. Parker, 1 Neb.App. 187, 492 N.W.2d 50 (1992) (discussing remedy of
forced disposition of married couple's antiques versus voluntary resolution after mandate). But, if the
parties have not completely resolved the disposition of the inventory and fixtures between
themselves within the time given and filed mutual satisfactions of judgment, then the trial court shall
within 10 days appoint an appropriate special master, who shall collect the property and sell it at
open auction within 75 days of our mandate, upon the typical conditions determined by the master
211
for the sale and disposal of personal property, such as in estate sales of household goods. The parties
may buy anything they wish at the auction, but only under the advertised conditions of sale.
The master shall within 14 days of the sale file his or her written accounting of the costs of
sale, the fees the master proposes to charge, and the remaining balance of sale proceeds, if any,
which shall be applied to the taxable court costs of this action to wind up the partnership (which
shall not include attorney fees for either party), after which the remaining balance, if any, of the
proceeds shall be paid over in equal shares to the parties, for which they shall each file a satisfaction
of judgment.
*
*
*
CONCLUSION
For the reasons set forth above, after our de novo review, we hold that the Porcelain Rose
partnership did not dissolve, wind up, and terminate on February 19, 1999, as found by the district
court. We reverse the judgment in favor of Clevenger and against Rehn in the amount of $9,468. The
remaining partnership property must be disposed of before this accounting can be completed, which
must happen to complete the wind up and bring about termination of this partnership. The proceeds
of such liquidation shall be used as we detailed above. We also reverse the trial court's order
requiring each party to pay one- half of the outstanding bank indebtedness, understanding that under
the facts, such order is unnecessary and meaningless. That said, the matter is remanded to the district
court for further proceedings in accordance with our opinion.
REVERSED AND REMANDED WITH DIRECTIONS.
HANNON, Judge, participating on briefs.
Collins v. Lewis
283 S.W.2d 258 (Texas 1955)
Carr P. COLLINS et al., Appellants,
v.
John L. LEWIS et al., Appellees.
No. 12831.
Court of Civil Appeals of Texas, Galveston.
Oct. 13, 1955.
Rehearing Denied Nov. 3, 1955.
212
HAMBLEN, Chief Justice.
This suit was instituted in the District Court of Harris County by the appellants, who, as the
owners of a fifty per cent (50%) interest in a partnership known as the L-C Cafeteria, sought a
receivership of the partnership business, a judicial dissolution of the partnership, and foreclosure of a
mortgage upon appellees' interest in the partnership assets. Appellees denied appellants' right to the
relief sought, and filed a cross- action for damages for breach of contract in the event dissolution
should be decreed. Appellants' petition for receivership having been denied after a hearing before
the court, trial of the issues of dissolution and foreclosure, and of appellees' cross-action, proceeded
before the court and a jury. At the conclusion of such trial, the jury, in response to special issues
submitted, returned a verdict upon which the trial court entered judgment denying all relief sought
by appellants.
The facts are substantially as follows:
In the latter part of 1948 appellee John L. Lewis obtained a commitment conditioned upon
adequate financial backing from the Brown-Bellows-Smith Corporation for a lease on the basement
space under the then projected San Jacinto Building for the purpose of constructing and operating a
large cafeteria therein. Lewis contacted appellant Carr P. Collins, a resident of Dallas, proposing
that he (Lewis) would furnish the lease, the experience and management ability for the operation of a
cafeteria, and Collins would furnish the money; that all revenue of the business, except for an agreed
salary to Lewis, would be applied to the repayment of such money, and that thereafter all profits
would be divided equally between Lewis and Collins. These negotiations failed to materialize
because of the inability of Lewis to conclude satisfactory terms with the building owners.
Thereafter, in 1949, negotiations along substantially the same terms were reopened, and culminated
in the execution between the building owners, as lessors, and Lewis and Collins, as lessees, of a
lease upon such basement space for a term of 30 years. Thereafter Lewis and Collins entered into a
partnership agreement to endure throughout the term of the lease contract. This agreement is in part
evidenced by a formal contract between the parties, but both litigants concede that the complete
agreement is ascertainable only from the verbal understandings and exchanges of letters between the
principals. It appears to be undisputed that originally a corporation had been contemplated, and that
the change to a partnership was made to gain the advantages which such a relationship enjoys under
the internal revenue laws. The substance of the agreement was that Collins was to furnish all of the
funds necessary to build, equip, and open the cafeteria for business. Lewis was to plan and supervise
such construction, and, after opening for business, to manage the operation of the cafeteria. As a
part of his undertaking, he guaranteed that moneys advanced by Collins would be repaid at the rate
of at least $30,000, plus interest, in the first year of operation, and $60,000 per year, plus interest,
thereafter, upon default of which Lewis would surrender his interest to Collins. In addition Lewis
guaranteed Collins against loss to the extent of $100,000. In the partnership agreement fifty per cent
interest therein is reflected to be owned by Collins and certain members of his family, in stated
proportions, and the other fifty per cent is reflected to be owned by Lewis and members of his
family. However, in their conduct of the business of the partnership, it is conceded by all litigants
that Lewis and Collins completely controlled the respective equal fifty per cent interests in the
business to the same extent *260 as if the actual ownership were so vested. For the purpose of this
opinion, they are treated as if that were in fact the case.
Immediately after the lease agreement had been executed Lewis began the preparation of
detailed plans and specifications for the cafeteria. Initially Lewis had estimated, and had represented
213
to Collins, that the cost of completing the cafeteria ready for operation would be approximately
$300,000. Due to delays on the part of the building owners in completing the building, and delays in
procuring the equipment deemed necessary to opening the cafeteria for business, the actual opening
did not occur until September 18, 1952, some 2 1/2 years after the lease had been executed. The
innumerable problems which arose during that period are in part reflected in the exchange of
correspondence between the partners. Such evidence reflects that as to the solution of most of such
problems the partners were in entire agreement. It further reflects that such disagreements as did
arise were satisfactorily resolved. It likewise appears that the actual costs incurred during that period
greatly exceeded the amount previously estimated by Lewis to be necessary. The cause of such
increase is disputed by the litigants. Appellants contend that it was brought about largely by the
extravagance and mismanagement of appellee Lewis. Appellees contend that it resulted from
inflation, increased labor and material costs, caused by the Korean War, and unanticipated but
necessary expenses. Whatever may have been the reason, it clearly appears that Collins, while
expressing concern over the increasing cost, and urging the employment of every possible economy,
continued to advance funds and pay expenses, which, by the date of opening for business, had
exceeded $600,000.
Collins' concern over the mounting costs of the cafeteria appears to have been considerably
augmented by the fact that after opening for business the cafeteria showed expenses considerably in
excess of receipts. Upon being informed, shortly after the cafeteria had opened for business, that
there existed incurred but unpaid items of cost over and above those theretofore paid, Collins made
demand upon Lewis that the cafeteria be placed immediately upon a profitable basis, failing which
he (Collins) would advance no more funds for any purpose. There followed an exchange of
recriminatory correspondence between the parties, Collins on the one hand charging Lewis with
extravagant mismanagement, and Lewis on the other hand charging Collins with unauthorized
interference with the management of the business. Futile attempts were made by Lewis to obtain
financial backing to buy Collins' interest in the business. Numerous threats were made by Collins to
cause Lewis to lose his interest in the business entirely. This suit was filed by Collins in January of
1953.
The involved factual background of this litigation was presented to the jury in a trial which
extended over five weeks, and is reflected in a record consisting of a transcript of 370 pages, a
statement of facts of 1,400 pages, and 163 original exhibits. At the conclusion of the evidence 23
special issues of fact were submitted to the jury. The controlling issues of fact, as to which a dispute
existed, were resolved by the jury in their answers to Issues 1 to 5, inclusive, in which they found
that Lewis was competent to manage the business of the L-C Cafeteria; that there is not a reasonable
expectation of profit under the continued management of Lewis; that but for the conduct of Collins
there would be a reasonable expectation of profit under the continued management of Lewis; that
such conduct on the part of Collins was not that of a reasonably prudent person acting under the
same or similar circumstances; and that such conduct on the part of Collins materially decreased the
earnings of the cafeteria during the first year of its operation. In their briefs the litigants make
widely divergent claims relative to the factual conclusions properly to be drawn from the evidence,
as well as the legal effect thereof. This Court has been able to resolve such differences only by a
most detailed examination of the entire record. From that examination we conclude not only that
there is ample support for the findings of the jury which we consider *261 to be controlling, but
further that upon the entire record, including such findings, the trial court entered the only proper
judgment under the law, and that that judgment must be in all things affirmed.
214
Appellants present seven asserted points of error. Points one to four, inclusive, present
appellants' contention that the trial court erred in refusing to dissolve the partnership. Points five to
seven, inclusive, present their contention that the trial court erred in refusing to foreclose appellant
Collins' lien upon the appellees' interest in the partnership.
As we understand appellants' position relative to their points one to four, they contend that
there is no such thing as an indissoluble partnership; that it is not controlling or even important, in so
far as the right to a dissolution is concerned, as to which of the partners is right or wrong in their
disputes; and finally, that whenever it is made to appear that the partners are in hopeless
disagreement concerning a partnership which has no reasonable expectation of profit, the legal right
to dissolution exists. In support of these contentions appellants cite numerous authorities, all of
which have been carefully examined. We do not undertake to individually distinguish the authorities
cited for the reason that in no case cited by appellants does a situation analogous to that here present
exist, namely, that the very facts upon which appellants predicate their right to a dissolution have
been found by the jury to have been brought about by appellant Collins' own conduct, in violation of
his own contractual obligations.
We agree with appellants' premise that there is no such thing as an indissoluble partnership
only in the sense that there always exists the power, as opposed to the right, of dissolution. But legal
right to dissolution rests in equity, as does the right to relief from the provisions of any legal
contract. The jury finding that there is not a reasonable expectation of profit from the L-C Cafeteria
under the continued management of Lewis, must be read in connection with their findings that Lewis
is competent to manage the business of L-C Cafeteria, and that but for the conduct of Collins there
would be a reasonable expectation of profit therefrom. In our view those are the controlling findings
upon the issue of dissolution. It was Collins' obligation to furnish the money; Lewis' to furnish the
management, guaranteeing a stated minimum repayment of the money. The jury has found that he
was competent, and could reasonably have performed his obligation but for the conduct of Collins.
We know of no rule which grants Collins, under such circumstances, the right to dissolution of the
partnership. The rule is stated in Karrick v. Hannaman, 168 U.S. 328, 18 S.Ct. 135, 138, 42 L.Ed.
484, as follows: 'A court of equity, doubtless, will not assist the partner breaking his contract to
procure a dissolution of the partnership, because, upon familiar principles, a partner who has not
fully and fairly performed the partnership agreement on his part has no standing in a court of equity
to enforce any rights under the agreement.' It seems to this Court that the proposition rests upon
maxims of equity, too fundamental in our jurisprudence to require quotation.
The basic agreement between Lewis and Collins provided that Collins would furnish money
in an amount sufficient to defray the cost of building, equipping and opening the L-C Cafeteria for
operation. As a part of the agreement between Lewis and Collins, Lewis executed, and delivered to
Collins, a mortgage upon Lewis' interest in the partnership 'until the indebtedness incurred by the
said Carr P. Collins * * * has been paid in full out of income derived from the said L-C Cafeteria,
Houston, Texas.'
The evidence shows that a substantial portion of the money used to build, equip and open the
cafeteria was borrowed by Collins from the First National Bank in Dallas. The bank credit was
admittedly extended upon Collins' financial responsibility. In the mechanics of arranging for such
credit, however, Collins prepared and requested Lewis and his family to execute notes in the total
sum of $175,000 payable *262 to the First National Bank in Dallas on demand. Lewis expressed
concern at creating an obligation payable on terms which he felt unable to meet, whereupon Collins
215
addressed a signed letter to Lewis, Containing language as follows: '* * * If you are apprehensive
because of the fear that there might be a foreclosure of these notes or a failure to renew these notes
for a sufficient period of time to liquidate them at a rate of not more than $2,500 per month the first
year and $5,000 per month the second year, I can assure you that the notes will be renewed as often
as is necessary to protect you on that point. I have never had in mind any arrangement other than
that the notes would be carried for an indefinite time. * * * My arrangement with you in regard to
this financing would be binding on my estate or until the obligation was fully discharged.' Collins
testified that after execution and delivery of the notes to him by Lewis, he endorsed them and
guaranteed their payment to the bank.
At about the time this suit was instituted, the First National Bank in Dallas made demand
upon Lewis for payment of the notes described, thus maturing the liability of Collins upon his
endorsement of the notes. The failure of Lewis to pay such notes on demand constitutes the default,
by reason of which Collins seeks foreclosure of his mortgage on Lewis' interest in the partnership.
We are unable to agree with appellants in this contention, and must overrule their points presenting
it. Regardless of the legal relationship between Lewis and the First National Bank in Dallas, created
by the notes described, Lewis' obligation to Collins is limited to repaying money advanced by
Collins at the minimum rate of $30,000 the first year and $60,000 per year thereafter. Only upon
default of that obligation does the right of foreclosure ripen. There is testimony in the record to the
effect that Collins, as a director and stockholder in the Dallas Bank had induced the bank to make
demand for payment in order to effect foreclosure. That proof appears to us to be entirely
immaterial to the determination of the rights of these litigants. The proof is undisputed that the bank,
after maturing the notes, took no further steps to effect collection. Aside from that, however, as we
construe the partnership agreement, it was Collins' obligation to furnish all money needed to build,
equip and open the cafeteria for business. With particular reference to the notes, it was Collins'
obligation to protect Lewis against any demand for payment so long as Lewis met his obligation of
repaying money advanced by Collins at the rate agreed upon. Failure on Collins' part to protect
Lewis on his obligation to the bank would constitute a breach of contract by Collins.
Collins' right to foreclose, therefore, depends upon whether or not Lewis has met his basic
obligation of repayment at the rate agreed upon. Appellees contend, we think correctly, that he has,
in the following manner: the evidence shows that Collins advanced a total of $636,720 for the
purpose of building, equipping and opening the cafeteria for business. The proof also shows that
Lewis contended that the actual cost exceeded that amount by over $30,000. The litigants differed in
regard to such excess, it being Collins' contention that it represented operating expense rather than
cost of building, equipping and opening the cafeteria. The jury heard the conflicting proof relative to
these contentions, and resolved the question by their answer to Special Issue 20, whereby they found
that the minimum cost of building, equipping and opening the cafeteria for operation amounted to
$697,603.36. Under the basic agreement of the partners, therefore, this excess was properly Collins'
obligation. Upon the refusal of Collins to pay it, Lewis paid it out of earnings of the business during
the first year of its operation. Thus it clearly appears that Lewis met his obligation, and the trial
court properly denied foreclosure of the mortgage.
In their brief, appellants repeatedly complain that they should not be forced to endure a
continuing partnership wherein there is no reasonable expectation of profit, which they say is the
effect of the trial *263 court's judgment. The proper and equitable solution of the differences which
arise between partners is never an easy problem, especially where the relationship is as involved as
216
this present one. We do not think it can properly be said, however, that the judgment of the trial
court denying appellants the dissolution which they seek forces them to endure a partnership wherein
there is no reasonable expectation of profit. We have already pointed out the ever present inherent
power, as opposed to the legal right, of any partner to terminate the relationship. Pursuit of that
course presents the problem of possible liability for such damages as flow from the breach of
contract. The alternative course available to appellants seems clearly legible in the verdict of the
jury, whose services in that connection were invoked by appellants.
Judgment affirmed.
Monin v. Monin
785 S.W.2d 499 (Ky. 1989)
313
Charles MONIN, Individually and as a Partner in Monin Bros., Appellant,
v.
Joseph E. MONIN, Individually and as a Partner in Monin Bros., and Sonny Monin,
Inc., Appellees.
No. 88-CA-753-MR.
Court of Appeals of Kentucky.
Oct. 13, 1989.
Discretionary Review Denied
by Supreme Court
April 18, 1990.
McDONALD, Judge.
This is a partnership case. The parties, Charles Monin and Joseph Monin (a/k/a Sonny), are
brothers who formed a partnership in 1967 for the purpose of hauling milk. In 1984 the relationship
between Charles and Sonny deteriorated such that Sonny no longer desired to continue the
partnership. Some efforts were made to resolve their affairs, to no avail. In July, 1984, Sonny
notified Charles of his intention to dissolve the partnership, and the next day wrote to Dairymen
Incorporated (DI) to notify them that he was canceling the partnership's contract with DI effective
October 16, 1984, the annual renewal date of the hauling contract. Sonny also informed DI he
wanted to apply for the right to haul milk for DI after the expiration of the partnership's contract. On
September 24, 1984, Charles and Sonny executed an agreement to resolve their business
arrangement. The document entitled "Partnership Sales Agreement" provided that *500 they would
hold a private auction between themselves for all the assets of the partnership "including equipment,
and milk routes." As the contract with DI required approval of any sale or transfer of the milk
hauling agreement, the sales agreement provided that such approval from DI would be sought and
the sales agreement would be "null and void" if approval from DI was not forthcoming. The
agreement also contained a covenant not to compete. Charles was the successful bidder at the
auction, having bid $86,000.
217
On the same day as the auction, September 27, 1984, DI called a producers meeting at which
time those present voted not to approve Charles as their hauler. Instead they voted to have Sonny
haul their milk. Sonny accepted the offer and has since hauled milk for DI as Sonny Monin, Inc. As
a result Sonny ended up with the major asset of the partnership, the milk hauling contract, at no cost
to him.
On February 11, 1985, Charles commenced this action in the Nelson Circuit Court alleging
that Sonny violated his fiduciary duty to the partnership and that he had tortiously interfered with the
partnership's contractual relations with clients and customers. A bench trial was conducted in
December, 1986. In its judgment for Sonny the trial court reasoned as follows:
When Charles was the high bidder at $86,000.00, the value of the partnership
assets, including milk routes, was established as far as Charles was concerned.
Sonny had no further say in establishing a value for such assets. When the
producers and D.I. rejected Charles as a milk hauler, the value of the partnership
assets became adjusted from $86,000.00 to $22,000.00 (the value of the milk
hauling equipment).
When the producers voted for Sonny to haul their milk, they were not voting on a
partnership matter. They were voting on Sonny's individual application.
Furthermore, they were privileged to vote for some third person to haul their
milk.
In summary, the affairs of the Monin Brothers partnership were finally settled on
September 27, 1984. As a result of the actions of that date, the assets of the
partnership were finally valued at $22,000.00. When Charles was rejected as the
D.I.'s milk hauler on that date, the partnership had no interest in the milk routes
and neither partner had any claim to same as part of their partnership interests.
We conclude the trial court's reasoning is flawed in that it ignores Sonny's duties to the
partnership with respect to the most valuable asset of that entity, the milk hauling contract. As stated
in Van Hooser v. Keenon, Ky., 271 S.W.2d 270, 273 (1954), "[T]here is no relation of trust or
confidence known to the law that requires of the parties a higher degree of good faith than that of a
partnership. Nothing less than absolute fairness will suffice." (emphasis added.) Importantly, that
decision holds that a partner's fiduciary duties extend beyond the partnership "to persons who have
dissolved partnership, and have not completely wound up and settled the partnership affairs."
Sonny's continuing duty was especially applicable here as he agreed to sell his interest to Charles so
Charles could continue the partnership business. See 59A Am.Jur.2d Partnership ' 431 (2nd
Ed.1987). Nothing in the Uniform Partnership Act (KRS Chapter 362) changes the high degree of
good faith partners must maintain in their relations with one another. See Marsh v. Gentry, Ky., 642
S.W.2d 574 (1982).
Thus, when Sonny failed to withdraw his application with D.I. for the milk routes after
agreeing to allow Charles to buy his interest in those routes and continue the partnership business,
Sonny obviously breached his duties to the partnership. As the court found, the value of the
partnership assets dropped from $86,000 to $22,000 when Sonny was awarded the contract by D.I.
While it is possible D.I. would not have awarded the contract to Charles even if Sonny had
withdrawn his name from contention, there is no evidence that any other person or entity was
available or willing to take over the route. The law is clear that one partner cannot benefit at the
218
expense of the partnership. Van Hooser, supra. Sonny, by agreeing to sell *501 his share of the
assets to Charles and by actively pursuing those same assets from D.I., positioned himself such that
whatever D.I. did, he could not lose. Understandably, Charles believes he was abused by the obvious
conflict of interest. Thus, the trial court's dismissal of Charles's breach of fiduciary duty claim is
reversed and remanded for entry of judgment in favor of Charles. We do not believe a new trial on
damages is required; nor do we believe Charles is entitled to an accounting from Sonny for profits
made since 1984. The value of the asset at issue was determined by the parties at or very near the
time of Sonny's breach of duty to the partnership ($86,000 minus $22,000, or $64,000), and that
should form the measure of damages to which Charles is entitled.
Finally, the trial court's findings concerning the tortious interference with contractual
relations are supported by substantial evidence and will not be disturbed. CR 52.01. The evidence
of Sonny's behind-the-back efforts to convince producers not to work with or accept Charles as their
hauler was conflicting, and the trial court, as fact finder, could believe Sonny's version of the facts
on that claim.
Accordingly, the judgment of the Nelson Circuit Court is reversed and remanded for entry of
a new judgment consistent with this opinion.
HOWARD, J., concurs.
EMBERTON, J., dissents.
EMBERTON, Judge, dissenting.
I respectfully dissent.
I cannot agree with the majority that Sonny's actions constitute a breach of his fiduciary
obligation to Charles. Evidence indicates that numerous efforts toward resolution of the problem-which efforts appeared to be made in good faith by Sonny--were summarily rebuffed by Charles.
There is no evidence but that both parties were genuinely bidding at the September 27 private
auction. Both understood that the successful bidder won equipment, the routes and the other assets
only if DI approved the new contract.
Upon polling the affected producers, only 1 out of 12 indicated a preference for Charles. In
fact, evidence was strong that most of the producers would not allow Charles to haul their milk; that
the DI field representative stated DI could not work with Charles; and, that drivers stated they
would quit before driving for Charles. The trial court, having heard the evidence, found that none of
such positions taken by DI, or by the producers, were the result of actions taken (or statements made)
by Sonny. DI, having such information, made a decision in its own best interest--not as a result of
influence from Sonny.
I find nothing in the record to support a reversal of the trial court's decision. I would affirm.
Lawlis v. Kightlinger & Gray
562 N.E.2d 435 (Ind. 1990)
219
Gerald L. LAWLIS, Appellant (Plaintiff Below),
v.
KIGHTLINGER & GRAY, an Indiana Partnership; Robert J. Wampler; John N.
Thompson; John T. Lorenz; Donald L. Dawson; Ronald A. Hobgood; Mark William
Gray; and Peter G. Tamulonis, Appellees (Defendants Below).
No. 73A04-9002-CV-101.
Court of Appeals of Indiana,
Fourth District.
Nov. 14, 1990.
Rehearing Denied Dec. 13, 1990.
CONOVER, Judge.
* * *
The partnership for many years has practiced law in Indianapolis and Evansville under
various firm names. Lawlis initially became an associate of the partnership in 1966 but resigned
after three years to join the staff of Eli Lilly and Company as an attorney. In early 1971, the
partnership offered Lawlis a position as a general partner and Lawlis accepted. He signed his first
partnership agreement as a general partner in 1972. That agreement remained effective until a new
one was executed by the partners, including Lawlis, in 1984. Both these agreements provided for
partnership compensation based upon a unit system, i.e., partners participated in the profits
according to the number of units assigned to them each year by the partnership. Lawlis became a
senior partner in 1975 and continued to practice law with the firm without interruption until 1982.
In that year, Lawlis became an alcohol abuser, and due to that affliction did not practice law
for several months in early 1983 and in mid 1984. During each of these periods, he sought treatment
for his alcoholism. (R. 11). Lawlis did not reveal his problem with alcohol to the partnership until
July of 1983 when he disclosed it to the partnership's Finance Committee. When he did so, it
"promptly contacted and met as a group with a physician who had expertise in the area of
alcoholism." It then drafted "a document entitled 'Program Outline' which set forth certain
conditions for Lawlis' continuing relationship with the Partnership." (R. DeTrude Aff., p. 4 & 1213). That document, signed by *438 Lawlis in August, 1983, contained the following
understanding: "3. It must be set out and clearly understood that there is no second chance." (R.
Lawlis Aff., Exh. B-1). By March, 1984, Lawlis had resumed the consumption of alcohol. Lawlis
again sought treatment, and the firm gave Lawlis a second chance.
Its Finance Committee then decided Lawlis would be required to meet specified conditions in
order for his relationship with the partnership to continue. These conditions included meetings with
specialists selected by the partnership, treatment and consultation regarding his problem, and the
obtaining of favorable reports from the specialist as to the likelihood of a favorable treatment
outcome. Lawlis was told he would be returned to full partnership status if he complied with the
conditions imposed. He has not consumed any alcoholic beverages since his second treatment in an
alcoholic clinic in March, 1984.
220
Two written partnership agreements embodying primarily the same provisions were in effect
in 1982 and thereafter, executed in 1972 and 1984, respectively. Lawlis executed both agreements
and each annual addendum thereto along with all the other partners of the firm. Under the 1984
agreement, the senior partners by majority vote were to determine (a) the units each partner annually
received, (b) the involuntary expulsion of partners, and (c) the involuntary retirement of partners.
(R. 24-26).
As Lawlis battled his problem, his units of participation yearly were reduced by the annual
addendum to the partnership agreement. Because he had not consumed alcohol since his second trip
to a clinic and had been congratulated by senior partner Wampler, a member of the Finance
Committee, and several others as to his "100% turn around," Lawlis felt "a substantial restoration of
my previous status was past due." So believing, he met with the Finance Committee on October 1,
1986, and proposed his units of participation be increased from his then 60 to 90 units in 1987.
On October 23, 1986, Wampler told Lawlis the firm's Finance Committee was going to
recommend Lawlis's relationship as a senior partner be severed no later than June 30, 1987. Two
days later, all the firm's files were removed from Lawlis's office. The severance recommendation
was presented at the 1986 year-end senior partners meeting. All except Lawlis voted to accept the
Finance Committee's recommendation. At that time, as the Finance Committee also had
recommended, Lawlis was assigned one unit of participation for the first six months of 1987 to a
maximum total value of $25,000 on a weekly draw. This arrangement permitted Lawlis to retain his
status as a senior partner to facilitate transition to other employment and to give him continuing
insurance coverage.
Lawlis refused to sign the 1987 addendum containing those provisions and retained counsel
to represent his interests. In consequence, he was expelled by a seven to one vote of the senior
partners at a meeting held on February 23, 1987. (Lawlis cast the lone dissenting vote.) Article X of
the 1984 agreement requires a minimum two-thirds vote of the senior partners to accomplish the
involuntary expulsion of a partner. (R. 28). Lawlis filed suit for damages for breach of contract.
From the entry of an adverse summary judgment, Lawlis appeals.
* * *
Lawlis first claims [FN1] his notification by Wampler on October 23, 1986, that the Finance
Committee would recommend his severance as a partner coupled with the removal of all partnership
files from his office two days later constituted an IND. CODE 23-4-1-29 dissolution of the
partnership. At that time, he posits he ceased "to be associated in the carrying on as distinguished
from the winding up of the business." Deeming such expulsion wrongful because not authorized by
a two-thirds vote of the senior partners at that time, Lawlis asserts he has a claim for damages
against the partners under IC 23-4-1-38(a)(2) for dissolution in contravention of the partnership
agreement. We disagree.
FN1. The partnership asserts parol evidence is not admissible because the partnership
agreement evidences an intent to have that writing provide the complete information
regarding governance of the partnership, i.e., the contract is integrated. This is an important
issue because all of Lawlis's claims are dependent upon parol evidence. However, this
partnership agreement is not integrated because it contains no true integration clause.
Such clauses express the parties' intention that all prior negotiations, representations,
previous communications, and the like are either withdrawn, annulled, or merged into the
221
final written agreement. Although an integration clause is a valuable drafting technique
when all the parties involved intend such a clause be included in their contract, see Franklin
v. White (1986), Ind., 493 N.E.2d 161, 166, no such language appears in the partnership
agreement here at issue. Thus, parol evidence is admissible.
It is readily apparent Wampler merely told Lawlis what the Finance Committee proposed to
do in the future. No dissolution occurred on that account. That the firm's files were removed from
Lawlis's office two days later is immaterial. After their removal, Lawlis still participated in the
partnership's profits through a weekly draw even though he evidently had nothing to do.
Finally, the undisputed facts clearly demonstrate there was a meeting of the minds he would
remain a senior partner after October 23, 1986. The partnership continued to treat Lawlis as a senior
partner after that date. The Finance Committee's memorandum of November 25, 1986, regarding
Lawlis's partnership status, proposed for 1987 he be given a weekly draw on one unit of participation
until June 30, 1987, at which time his relationship with the firm would terminate, unless he withdrew
earlier. Further, that committee's minutes for its December 23, 1986 meeting regarding the change
in letterhead show Lawlis's name was not to be removed from the letterhead, it was to be placed at
the bottom of the list of partners.
Also, Lawlis considered himself to be a senior partner after October 26, 1986. He refused as
a senior partner to sign the proposed 1987 addendum "which implemented the decisions made by the
Finance Committee concerning Lawlis," Appellant's Brief, p. 8; (R. at Exhibit 1, Lawlis Aff., p. 5),
and cast the lone dissenting vote on his expulsion at the meeting of the senior partners held on
February 23, 1987. Article X of the partnership agreement provides:
Expulsion of a Partner
A two-thirds ( 2/3 ) majority of the Senior Partners, at any time, may expel any
partner from the partnership upon such *440 terms and conditions as set by said
Senior Partners.... (Emphasis supplied).
Only a partner could refuse to sign the proposed 1987 addenda after its tender by the firm to
Lawlis for signature, and only a senior partner could vote on the Finance Committee's proposal to
expel a partner under the partnership agreement. The undisputed facts disclose Lawlis remained a
senior partner of the firm until he was expelled as such by vote of the senior partners on February 23,
1987.
Further, the time a dissolution occurs under these circumstances is clearly defined by statute.
The Indiana Uniform Partnership Act at IC 23-4- 1-31 says:
Sec. 31. Dissolution is caused: (1) Without violation of the agreement between
the partners, ...
(d) By the expulsion of any partner from the business bona fide in accordance
with such a power conferred by the agreement between the partners.
Lawlis was expelled in accordance with the partnership agreement on February 23, 1987.
Thus, dissolution occurred on that date, not when he was notified of the proposal to expel him.
Lawlis has no claim for damages under IC 23-4-1- 38(a)(2).
Lawlis next argues his expulsion contravened the agreement's implied duty of good faith and
fair dealing because he was expelled for the "predatory purpose" of "increasing [the firm's] lawyer to
222
partner ratio," as evidenced by the Finance Committee's proposal contained in its November 25,
1986, memo to partners regarding the 1986 year end meeting. The partnership, however, posits
Indiana does not recognize a duty of good faith and fair dealing in the context of an at will
relationship.
It would be a simple matter to extrapolate the principle that an employer may terminate an at
will employee for any cause or no cause without liability and apply it to the roughly comparable at
will business relationship we find here, namely, the relationship existing between the partnership as
an entity and its individual partners. The Indiana Uniform Partnership Act, however, prevents us
from so doing.
As noted above, when a partner is involuntarily expelled from a business, his expulsion must
have been "bona fide" or in "good faith" for a dissolution to occur without violation of the
partnership agreement. IC 23- 4-1-31(1)(d). Said another way, if the power to involuntarily expel
partners granted by a partnership agreement is exercised in bad faith or for a "predatory purpose," as
Lawlis phrases it, the partnership agreement is violated, giving rise to an action for damages the
affected partner has suffered as a result of his expulsion.
Lawlis finds a predatory purpose in the Finance Committee's November 25, 1986, memo to
the partners by quoting portions of the memo's section "4. FIVE YEAR PLAN, Firm Growth and
Financial Goals." He states:
The five-year plan stated that, "The goal is to increase the top partners to at least
$150,000 within the next two to three years.... In order to achieve the goal, we
need to continue to improve our lawyer to partner ratio." R. at Exhibit 1, Lawlis
Affidavit, Exhibit B-3.
Appellant's Brief, at 17. From that quote Lawlis reasons:
Obviously, the easiest way for the Partnership to improve its lawyer to partner
ratio, and thus increase the top partners' salaries, was to eliminate a senior
partner. Lawlis' position in the Partnership had been weakened by his absences
due to illness. The remaining partners knew this and pounced upon the
opportunity to devour Lawlis' partnership interest.
Appellant's Brief, at 18. The undisputed facts demonstrate the total inaccuracy of the final sentence
quoted from appellant's brief.
From the time Lawlis's addiction to alcohol became known to the partnership's Finance
Committee, it sought to assist and aid him through his medical crisis, even though he was taking
substantial amounts of time off from his work to attempt cures in sanatoriums and had concealed the
fact *441 of his alcoholism from his partners for many months. The firm permitted him to continue
drawing on his partnership account even though he became increasingly unproductive in those years,
as reflected by the continuing yearly drop in the number of units assigned him. After signing the
Program Outline in August, 1983, which structured his business life by providing among other
things for the monitoring of his work product by the firm for a period of one year, recommending he
attend Alcoholics Anonymous meetings, setting the specific times he would arrive at and remain in
the office, and containing a provision "3. ... there is no second chance," Lawlis "resumed the
consumption of alcohol" in March, 1984. (R. Lawlis Aff., at & 16). Instead of expelling Lawlis at
that time, the partnership acting through its Finance Committee continued to work with Lawlis by
223
drawing up yet another set of conditions he was to meet to remain with the firm. Clearly, these
undisputed facts present no "predatory purpose" on the firm's part, nor does the Finance Committee's
Five Year Plan when that proposal is read in full. [FN2]
* * *
In essence, the proposal was to change the manner in which the firm valued its performance,
and to obtain more production, i.e., billable hours from the attorney associates working for the firm
in its various departments to achieve its goal of increased income to the partners. There is no
proposal that the number of partners be reduced to accomplish the Five Year Plan's stated goals, nor
any reasonable inference arising therefrom to that effect.
Also, in the same memo at 1. PARTNER STATUS, A. Senior Partners, the Finance
Committee, instead of recommending Lawlis's immediate expulsion as a method of increasing its
lawyer to partner ratio, proposed he remain a partner for a maximum total of an additional eight
months to give him time to find other employment and retain insurance coverage while so engaged.
During that period it proposed he be permitted one participation unit upon which to draw up to
$25,000 while he sought other employment. Such proposal again clearly negates a partnership
"predatory purpose" for Lawlis's expulsion. Thus, there is no "genuine" issue as to whether the
partnership acted in good faith when it expelled Lawlis because it can be foreclosed by reference to
the undisputed facts here. Perry, 433 N.E.2d, at 46.
Lawlis next claims the partnership breached the fiduciary duty owed to him as a partner in
the firm by expelling him for the predatory purpose of increasing partner income, but acknowledges
that fiduciary duty is "intertwined with the duty of good faith and fair dealing." We discuss the good
faith issue at length below in connection with our discussion of constructive fraud.
Lawlis next argues the firm's act of expelling him was constructively fraudulent *442
because it constituted a breach of the fiduciary duty owed between partners which requires each to
exercise good faith and fair dealing in partnership transactions and toward co-partners. Given v.
Cappas (1985), Ind.App., 486 N.E.2d 583, 590. While we agree with Lawlis's bald statement of that
concept, it has no application to the facts of this case.
The fiduciary relationship between partners to which the terms "bona fide" and "good faith"
relate
... concern the business aspects or property of the partnership and prohibit a
partner, to-wit a fiduciary, from taking any personal advantage touching those
subjects. Plaintiffs' claims do not relate to the business aspects or property rights
of this partnership. There is no evidence the purpose of the severance was to
gain any business or property advantage to the remaining partners.
Consequently, in that context, there has been no showing of breach of the duty of
good faith toward plaintiffs.... Plaintiffs contend there was substantial evidence
indicating the individual partner's breach of fiduciary duties they owed to
plaintiffs as members of the bar. In view of our holding that the executive
committee had the right to expel plaintiffs without stating a reason or cause
pursuant to the Partnership Agreement, there was no breach of any fiduciary
duty. (Emphasis supplied).
224
Holman v. Coie (1974), 11 Wash.App. 195, 522 P.2d 515, 523-524. Holman concerned the
expulsion of two partners from a law firm for no stated cause, but there was evidence a political
speech by one of them had disgruntled the chief executive of one of the firm's major clients, the
Boeing Corporation. Substantially the same consideration present in Holman, i.e., potential damage
to partnership business, is present in this case.
* * *
All the parties involved in this litigation were legally competent and consenting adults well
educated in the law who initially dealt at arm's length while negotiating the partnership agreements
here involved. At the time the partners negotiated their contract, it is apparent they believed, as in
Holman, the "guillotine method" of involuntary severance, that is, no notice or hearing, only a
severance vote to terminate a partner involuntarily need be taken, would be in the best interests of
the partnership. Their intent was to provide a simple, practical, and above all, a speedy method of
separating a partner from the firm, if that ever became necessary for any reason. We find no fault
with that approach to severance.
Where the remaining partners in a firm deem it necessary to expel a partner under a no cause
expulsion clause in a partnership agreement freely negotiated *443 and entered into, the expelling
partners act in "good faith" regardless of motivation if that act does not cause a wrongful
withholding of money or property legally due the expelled partner at the time he is expelled. Used in
this context, "good faith" means
... a state of mind indicating honesty and lawfulness of purpose: belief in one's
legal title or right: belief that one's conduct is not unconscionable ...: absence of
fraud, deceit, collusion, or gross negligence....
Webster's Third New International Dictionary, G. & C. Merriam and Co., 1976. Clearly, the senior
partners acted in the belief they had the legal right to do so under the partnership agreement, as they
did. That they recommended a step- down severance over six months rather than the "guillotine"
severance permitted them under the agreement demonstrates a compassionate, not greedy, purpose.
If we were to hold otherwise, we would be engrafting a "for cause" requirement upon this agreement
when such was not the intent of the parties at the time they entered into their agreement. Mere lapse
of time, however long, does not alter that initial intent. Lawlis's constructive fraud argument is
without merit.
* * *
Affirmed.
MILLER, P.J., concurs.
GARRARD, J., concurs in result.
Jewel v. Boxer
225
156 Cal.App.3d 171, 203 Cal.Rptr. 13 (1984)
Howard H. JEWEL et al., Plaintiffs and Appellants,
v.
Stewart N. BOXER et al., Defendants and Respondents.
A017873.
Court of Appeal, First District, Division 5, California.
May 22, 1984.
Hearing Denied Aug. 22, 1984.
KING, Associate Justice.
In this case we hold that in the absence of a partnership agreement, the Uniform Partnership
Act requires that attorneys' fees received on cases in progress upon dissolution of a law partnership
are to be shared by the former partners according to their right to fees in the former partnership,
regardless of which former partner provides legal services in the case after the dissolution. The fact
that the client substitutes one of the former partners as attorney of record in place of the former
partnership does not affect this result.
Howard H. Jewel and Brian O. Leary appeal from a judgment, after dissolution of the former
law partnership of Jewel, Boxer and Elkind, allocating post- dissolution fees on a quantum meruit
basis. We reverse the judgment and remand the cause for allocation based upon the respective
interests in the former partnership.
On December 2, 1977, the law firm of Jewel, Boxer and Elkind was dissolved by mutual
agreement of its four partners--Howard H. Jewel, *175 Stewart N. Boxer, Peter F. Elkind, and Brian
O. Leary. The partners formed two new firms: Jewel and Leary, and Boxer and Elkind. Three
associates employed by the old firm were employed by Boxer and Elkind. The partners in the old
firm not only lacked an agreement about the allocation of fees from active cases upon a dissolution
of the partnership but, contrary to the sound legal advice they undoubtedly always gave their
partnership clients, they had no written partnership agreement. The absence of a written partnership
agreement was an invitation to litigation upon a dissolution of the partnership.
On the date of dissolution the former partnership had numerous active cases. Boxer, Elkind,
and the three associates had handled most of the active personal injury and workers' compensation
cases; the rest, as well as other kinds of cases, had been handled by Jewel and Leary. Shortly after
dissolution, each former partner sent a letter to each client whose case he had handled for the old
firm, announcing the dissolution. **16 Enclosed in the letter was a substitution of attorney form,
which was executed and returned by each client retaining the attorney who had handled the case for
the old firm. [FN1] The new firms represented the clients under fee agreements entered into
between the client and the old firm.
FN1. Neither party challenged at trial or on appeal the authority of a former partner to
execute a substitution of attorney on behalf of the dissolved partnership.
226
At issue here is the proper allocation of attorneys' fees received from these cases, some of
which were still active at trial. Jewel and Leary filed a complaint for an accounting of these fees,
contending they were assets of the dissolved partnership.
In a nonjury trial the court first determined that the partnership interests in income of the old
firm were 30% for Jewel, 27% each for Boxer and Elkind, and 16% for Leary. The court then
allocated the disputed fees among the old and new firms by considering three factors: the time spent
by each firm in the handling of each case, the source of each case (always the old firm), and, in the
personal injury contingency fee cases, the result achieved by the new firm. The court assigned a
value of 25% to the source factor, and thus allocated 25% of the total fees to the old firm for this
factor. In the personal injury cases the court assigned values of 20%, 30%, and 40% for the result
factor, depending on when the cases were settled or if they were tried. Remaining percentages (35%
to 55% in the personal injury cases and 75% in the other cases) were allocated in accordance with
the amount of attorney time expended upon the case before and after dissolution. Under this
formula, Jewel and Leary was determined to owe $115,041.16 to the old firm, and *176 Boxer and
Elkind was determined to owe $291,718.60 to the old firm. The court rendered judgment in these
amounts, plus interest at the legal rate from the date of receipt of each fee on the amount due the old
firm. Although we reverse the judgment, we cannot do so without expressing admiration for the
laudable efforts of the learned trial judge who masterfully developed a formula geared to achieving a
just and equitable result for each party.
Under the Uniform Partnership Act (Corp.Code, ' 15000 et seq.), a dissolved partnership
continues until the winding up of unfinished partnership business. (Corp.Code, ' 15030.) No partner
(except a surviving partner) is entitled to extra compensation for services rendered in completing
unfinished business. [FN2] (Corp.Code, ' 15018, subd. (f).) Thus, absent a contrary agreement, any
income generated through the winding up of unfinished business is allocated to the former partners
according to their respective interests in the partnership.
FN2. As used in this opinion extra compensation means receipt by a former partner of the
dissolved partnership of an amount of compensation which is greater than would have been
received as the former partner's share of the dissolved partnership.
The trial court in the present case recognized these principles, but followed a Texas decision
which cited no supporting authority but held that the rule precluding extra compensation for postdissolution services should not apply to a law partnership, because fees are generated by a former
partner's post- dissolution time, skill, and labor. (Cofer v. Hearne (Tex.Civ.App.1970) 459 S.W.2d
877, 879.) The trial court also cited Fracasse v. Brent (1972) 6 Cal.3d 784, 100 Cal.Rptr. 385, 494
P.2d 9, which held that a client has an absolute right to discharge an attorney employed under a
contingent fee contract and the attorney is entitled only to the reasonable value of the services
rendered before discharge.
Jewel and Leary contend that the court erred in failing to adhere to the rule precluding extra
compensation, and should have allocated all post-dissolution fees from the old firm's unfinished
cases to the four former partners according to their respective percentage interests in the old firm.
Boxer and Elkind argue that the substitutions of attorneys transformed the old firm's unfinished
business into new **17 firm business and removed that business from the purview of the Uniform
Partnership Act, with the old firm thereafter, under Fracasse v. Brent, supra, limited to a quantum
meruit recovery for services rendered before discharge.
227
The decision in Cofer v. Hearne, supra, was plainly wrong. [FN3] The Uniform Partnership
Act unequivocally prohibits extra *177 compensation for post-dissolution services, with a single
exception for surviving partners. (Corp.Code, ' 15018, subd. (f).) The definition of "business" in the
Uniform Partnership Act as including "every trade, occupation, or profession" (Corp.Code, ' 15002)
precludes an exception for law partnerships. (Resnick v. Kaplan (1981) 49 Md.App. 499, 434 A.2d
582, 588.)
FN3. The source of the court's error in Cofer v. Hearne might have been the court's reliance
on decisions that predated the Uniform Partnership Act. (459 S.W.2d at pp. 879-880.)
Accordingly, several courts in other states have held that after dissolution of a law
partnership, income received by the former partners from cases unfinished at the time of dissolution
is to be allocated on the basis of the partners' respective interests in the dissolved partnership, not on
a quantum meruit basis. (Resnick v. Kaplan, supra, 434 A.2d at p. 587; Frates v. Nichols
(Fla.App.1964) 167 So.2d 77, 81; see also Kreutzer v. Wallace (Fla.App.1977) 342 So.2d 981, 982983.)
The decision in Resnick v. Kaplan, supra, is closely analogous to the present case. Resnick, a
former partner in a dissolved law partnership, opened his own office and continued to represent
clients of the former firm in cases for which he had been responsible before dissolution. The other
partners continued to represent other clients of the old firm. (Id., 434 A.2d at pp. 584-585.) In an
ensuing action for an accounting, the trial court allocated all fees collected in these cases among the
former partners according to their percentage interests in the former partnership. The appellate court
affirmed, stating that the Uniform Partnership Act "conferred no right upon either side to
compensation for services rendered in this winding up process, [citation] and, in the absence of any
provision in the partnership document, it was correctly held that the aggregate of the fees collected
should be allocated according to the percentages specified in the agreement for the distribution of
profits and losses." (Id., at p. 587.) The court rejected the argument that different rules should apply
to professional partnerships, citing the Uniform Partnership Act's express applicability to the
professions. (Id., at p. 588; see Corp.Code, ' 15002.)
The court in Resnick also rejected an argument made by Boxer and Elkind in the present case
(and asserted by the court below in citing Fracasse v. Brent ), that clients have an absolute right to
the attorney of their choice. The Resnick court recognized this right of clients, but said "it does not
mean, as appellant contends, that the fees thereafter earned by the partner chosen by the client are
not subject to division in accordance with the partnership agreement." (Id., at p. 588.) A similar
conclusion was reached recently in Rosenfeld, Meyer & Susman v. Cohen (1983) 146 Cal.App.3d
200, 219, 194 Cal.Rptr. 180, in which two partners handling a large antitrust suit for a law
partnership left the firm and contracted with the client to take the case with them. The court held
that even though the client had *178 the right to the attorneys of its choice, that right was irrelevant
to the rights and duties between the former partners with regard to income from unfinished
partnership business. The reasoning in Resnick and Rosenfeld on this point is sound: the right of a
client to the attorney of one's choice and the rights and duties as between partners with respect to
income from unfinished business are distinct and do not offend one another. Once the client's fee is
paid to an attorney, it is of no concern to the client how that fee is allocated among the attorney and
his or her former partners. Boxer and Elkind seek to distinguish the Rosenfeld holding, contending
it is limited to circumstances where the departing former partners act in bad faith. It is true that
Rosenfeld involved causes of **18 action for breach of a fiduciary duty, interference with
228
contractual relations, and conspiracy to interfere with contractual relations; however, its holding
should not be limited to bad faith claims.
* * *
There are sound policy reasons for applying the rule against extra compensation to law
partnerships. The rule prevents partners from competing for the most remunerative cases during the
life of the partnership in anticipation that they might retain those cases should the partnership
dissolve. It also discourages former partners from scrambling to take physical possession of files
and seeking personal gain by soliciting a firm's existing clients upon dissolution. Boxer and Elkind
argue that application of the rule in the present context will discourage continued representation of
clients by the attorney of their choice, as former partners will not want to perform all of the postdissolution work on a particular case while receiving only a portion of the income generated by such
work. Of course, this is all the former partners would have received had the partnership not
dissolved. Additionally, the former partners will receive, in addition to their partnership portion of
such income, their partnership share of income generated by the work of the other former partners,
without performing any post- dissolution work in those cases. On balance, the allocation of fees
according to each partner's interest in the former partnership should not work an undue hardship as
to any partner where each partner completes work on the partnership's cases which are active upon
its dissolution.
As previously indicated, the trial court's attempt to achieve an equitable result was laudable.
At first glance, strict application of the rule against extra compensation might appear to have unjust
results (**19 e.g., where a former partner obtains a highly remunerative case just before dissolution,
and nearly all work is performed after dissolution). But undue hardship should be prevented by two
basic fiduciary duties owed between the former partners. First, each former partner has a duty to
wind up and complete the unfinished business of the dissolved partnership. This would prevent a
partner from refusing to furnish any work and imposing this obligation totally on the other partners,
thus unfairly benefiting from their efforts while putting forth none of his or her own. Second, no
former partner may take any action with respect to unfinished business which leads to purely
personal gain. (Rosenfeld, Meyer & Susman v. Cohen, supra, 146 Cal.App.3d at pp. 216-217, 194
Cal.Rptr. 180; see Smith v. Bull, supra, 50 Cal.2d at p. 304, 325 P.2d 463; Resnick v. Kaplan,
supra, 434 A.2d at p. 587.) Thus the former partners are obligated to ensure that a disproportionate
burden of completing unfinished business does not fall on one former partner or one group of former
partners, unless the former partners agree otherwise. It is unlikely that the partners, in discharging
their mutual fiduciary duties, will be able to achieve a distribution of the burdens of completing
unfinished business that corresponds precisely to their respective interests in the partnership. But
partners are free to include *180 in a written partnership agreement provisions for completion of
unfinished business that ensure a degree of exactness and certainty unattainable by rules of general
application. If there is any disproportionate burden of completing unfinished business here, it results
from the parties' failure to have entered into a partnership agreement which could have assured such
a result would not occur. The former partners must bear the consequences of their failure to provide
for dissolution in a partnership agreement.
In short, the trial court's allocation of post-dissolution income to the old and new firms on a
quantum meruit basis constituted error. The appropriate remedy is to remand the cause for post-trial
proceedings to allocate such income to the former partners of the old firm in accordance with their
229
respective percentage interests in the former partnership. [FN5] This will also allow the trial court to
allocate fees received since the trial.
FN5. None of the litigants asserted a cause of action for breach of the former partners'
fiduciary duties to each other.
Under the provisions of the Uniform Partnership Act, the former partners will be entitled to
reimbursement for reasonable overhead expenses (excluding partners' salaries) attributable to the
production of post-dissolution partnership income; in other words, it is net post-dissolution income,
not gross income, that is to be allocated to the former partners. Y A reimbursement of reasonable
**20 and necessary overhead expenses attributable to the winding up of partnership business is
certainly an equitable result. When partners fail to have a partnership agreement which determines
how and to what extent such reimbursement*181 should take place, they have no cause to complain
about the law supplying an equitable resolution of the issue.
* * *
The judgment is reversed and the cause is remanded for further proceedings consistent with
this opinion.
LOW, P.J., and HANING, J., concur.
Hearing denied; MOSK, and BROUSSARD, JJ., did not participate.
Bassan v. Investment Exchange Corp.
83 Wash.2d 922, 524 P.2d 233 (1974)
Morton E. BASSAN et al., Appellants, M. L. Grout, Plaintiff,
v.
INVESTMENT EXCHANGE CORPORATION, a Washington corporation, and Auburn
West
Associates, a Washington limited partnership, Respondents,
James L. Charlton et al., Defendants.
No. 42921.
Supreme Court of Washington, En Banc.
June 20, 1974.
UTTER, Associate Justice.
The appellants are limited partners in Auburn West Associates, and the respondent
Investment Exchange *923 Corporation is the sole general partner. This action was brought for an
accounting and dissolution upon the theory that the general partner had, in purchasing land and
230
selling it to Auburn West Associates, derived profits without the consent of the limited partners in
breach of its fiduciary relationship. The cause was tried to the court which dismissed the action after
hearing the evidence.
The controlling issue in this case is whether the partners consented to the profit made by the
general partner in the sale of the Murakami property to the partnership. We find an absence of such
consent in the record and reverse the trial court.
In 1964 Investment Exchange Corporation, a Washington corporation, formed Auburn West
Associates as a limited partnership. The purpose of the partnership as stated in the articles of
partnership was
(to) initially acquire, for investment, improve and hold for lease or resale, a tract
of real property. The General Partner presently is the owner of interests in said
real property. To additionally acquire from the General Partner such other
adjacent and contiguous tracts as, in the sole determination of the General
Partner, will enhance the Partnership properties and objectives.
The general partner was given broad discretion in the articles to manage the affairs of the
partnership and they acknowledged the right of all partners, including the general partner, to
engage in
and/or possess an interest in other business ventures of every nature, and
description, independently or with others, including but not limited to the
ownership, financing, leasing, operation, management, syndication, brokerage
and/or development of real property; . . .
They also gave the general partner the right to have an interest in or be employed by another
business which might deal with the partnership.
The articles provided that the general partner might devote such of its time as in its discretion
it deemed necessary *924 to the partnership affairs and business, and that it should be reimbursed by
the partnership for all the costs and expenses which it incurred in connection therewith, in addition to
its respective share of the profits of the partnership.
**236 The partnership articles provided that 100 units of the partnership, consisting of 40 units as
general partner and 60 units as limited partner totaling $100,000, should be given to the general
partner as partial payment of the purchase price of the original piece of real property, the purchase
price being $593,000. That price was greater than the acquistion cost to the general partner.
Each of the appellants owned one or more limited partnership units. The remaining 29
limited partners did not elect to join in the action.
The general partner annually mailed out a financial statement to the limited partners. These
financial statements advised the limited partners of the price the partnership paid for the real estate
purchased from the general partner. The limited partners were represented at the partnership council
meetings by plaintiff Milton Grout and others.
The last transaction upon which the appellants claimed a right to receive the benefit of the
profit made by the general partner was the Murakami property. All claims by the limited partners
except that one were held barred by the statute of limitations.
231
The general partner had formed a real estate subsidiary and informed the limited partnership
it intended to utilize this corporation as sales and purchase agent for partnership property. The court
found the articles of limited partnership and prospectus had authorized the real estate subsidiary to
retain commissions on sales and purchases. This subsidiary received a $24,500 commission from
Murakami in the sale of the property in addition to the markup of $167,500 by the general partner.
The court found that in the issuance of the prospectus, the publication of financial statements
and in its dealings with the appellant and its conduct of partnership affairs, the *925 general partner
made no false or fraudulent representations and did not engage in any improper conduct. It found no
breach in its fiduciary obligations to the limited partners inasmuch as the price charged for the
Murakami parcel was fair and the amount of profit made by the general partner was reasonable.
There is no substantial dispute regarding the facts in this case and all of the claims prior to the
Murakami transaction are barred by the statute of limitations. The validity of this transaction is our
only concern in this appeal.
Under the Washington Uniform Limited Partnership Act, the general partner has all the rights
and powers, and is subject to all the restrictions and liabilities, of a partner in a partnership without
limited partners. RCW 25.08.090. He is therefore accountable to the limited partners as a fiduciary.
Homestake Mining Co. v. Mid-Continent Exploration Co., 282 F.2d 787 (10th Cir. 1960). The
Washington Uniform Partnership Act requires every partner to 'account to the partnership for any
benefit, and hold as trustee for it any profits derived by him without the consent of the other partners
from any transaction connected with the . . . conduct . . . of the partnership . . .' RCW 25.04.210(1).
The partnership agreement does not provide consent by the limited partners to the general
partner for a profit on the sale of the Murakami property to the partnership. The articles contain no
provision setting forth the price to be paid for this property nor any method for determining such a
price. Partners may include in the partnership articles practically any agreement they wish and if the
asserted self-dealing was actually contemplated and specifically authorized with a method for
determining, in advance, the amount of the profit it would not, ipso facto, be impermissible and
deemed wrongful. Riviera Congress Assoc. v. Yassky, 48 Misc.2d 282, 264 N.Y.S.2d 624 (1966).
Here, however, the partnership agreement is silent as to any formula to determine the general
partner's profit.
*926 The prospectus, from which it could be argued most earlier purchases by the partnership
**237 from the general partner were contemplated, does not mention the Murakami piece. It also
fails to set forth a formula to determine the general partner's profit in either the anticipated purchases
or in any future transactions by the general partner on behalf of the partnership. The articles of
limited partnership merely state that five parcels, the Henack, Nelson, Coast No. 2, Belus and Coast
No. 1 were to be acquired at a cost of $593,000 from the general partner. The prospectus disclosed
that the general partner intended, as well, to acquire the Davis parcel for $50,000 but the articles and
prospectus do not specifically describe any other anticipated acquisitions.
Neither the articles nor prospectus disclose the actual amount of the profit to be made by
Investment Exchange Corporation in their resale of properties to the Auburn West Associates
partnership. The only source of information to the limited partners on the profits by the general
partner was an accounting footnote in the 1964 partnership financial statement issued after the
limited partners had invested funds in the partnership, indicating that property acquired by Auburn
West Associates for $642,342 had previously cost the general partner $459,000.
232
The only other report indicating the amount of profit to the general partner was found in a
prospectus required by the Securities and Exchange Commission. This indicated that from May 1964
through December 1965, prior to the Murakami purchase, Auburn West Associates had acquired
eight parcels of property from Investment Exchange Corporation for $749,250 which property had
cost Investment Exchange Corporation $488,221.
An investigation of the separate transactions prior to the Murakami purchase showed no
consistent percentage of profit taken by the general partner on these transactions. Of those parcels
described in the prospectus to be acquired by the general partner, the highest profit received was
$67,000 on a piece sold for $182,000 (the Henack parcel). The smallest was a $20,000 profit on a
price sold for $180,000 *927 to the partnership (the Belus parcel). Of those properties not described
in the prospectus, and purchased subsequent to those described in the prospectus, the highest profit
was $80,000 on a piece sold for.$108,750 to the partnership (the Layos parcel) and the lowest was
$24,000 on a piece sold to the partnership for $50,000 (the Davis parcel).
The trial court found an understanding did exist that the general partner would acquire
property and sell it to the partnership at a fair price and would realize a profit on the transaction. It
did not and could not find that a formula existed or was agreed upon explicitly or inferentially that
established a basis upon which the exact amount of this profit was to be determined. The limited
partners, therefore, could only consent after the fact to whatever profit the general partner
determined it should have as to a particular transaction. Because of this, although the limited partners
may have consented after the fact to specific profits taken on previous transactions, this could not
imply consent to the Murakami transaction because the limited partners could not know what the
profit to Investment Exchange Corporation was until after the sale closed.
No consent may be implied from the conduct of the limited partners regarding Murakami
after they were informed of the profits. The formal action of Investment Exchange Corporation
adopting the $167,500 profit was on November 15, 1969, and suit was brought on November 26,
1969 by appellants.
Where consent is lacking, the general partner is held under RCW 25.04.210, as a trustee, to
account to the partnership for any profits derived by it. That standard, by the terms of the statute, is
not whether the general partner acted fairly and reasonably, but whether it acted as a fiduciary.
The benefit of this standard is nowhere more apparent than in a limited **238 partnership of
this nature. The articles give the general partner the authority to conduct 'any and all of the business
of the Partnership . . .' Once the *928 limited partner has joined the partnership he has no effective
voice in the decision-making process. He must, then, be able to rely on the highest standard of
conduct from the general partner. Any deviation from this must be clearly stated in terms that would
give the limited partner the option of deciding whether or not, in the first instance, to join the
partnership.
The duty of loyalty resulting from a partner's fiduciary position is such that the severity of a
partner's breach will not be questioned. The question is only whether there has been any breach at
all. Meinhard v. Salmon, 249 N.Y. 458, 164 N.E. 545 (1928).
This is to be distinguished from questions related to the use of business judgment of a partner
in partnership affairs. Here the degree of care required is one of reasonableness, or in some
jurisdictions, of good faith. Bohrer v. Drake, 3o Minn. 408, 23 N.W. 840 (1885); Cf. J. E. Crosbie,
233
Inc. v. King, 192 Okl. 53, 133 P.2d 543 (1943); Note, Fiduciary Duties of Partners, 48 Iowa L.Rev.
902 (1963). This is the standard the trial court apparently applied.
This case does not involve the issue of whether the general partner is entitled to make a profit
for use of its expertise. Compensation may be provided for the general partner by specific consent of
the parties. There is also no issue about the general partner's right to be reimbursed for its expenses.
Article 8, section 2 of the partnership articles provides that the general partner shall be reimbursed
for all the costs and expenses it incurs in the devotion of its time to the partnership business.
Investment Exchange Corporation did not act in a fiduciary capacity regarding the profits it
obtained in the Murakami transaction. Consent was not given by the appellants as to the profit taken
in that transaction and Investment Exchange Corporation should be held accountable to the
partnership for the profits it there realized.
This will result in the establishment of a common fund for the benefit of the partnership. The
expense of *929 legal services, including counsel fees, is a proper charge against the common fund
so preserved or protected. Weiss v. Bruno, Wash., 523 P.2d 915 (1974); In re Estate of Wheeler, 71
Wash.2d 789, 797, 431 P.2d 608 (1967).
The judgment is reversed and remanded to the trial court to determine counsel fees.
HALE, C.J., and FINLEY, STAFFORD, WRIGHT and BRACHTENBACH, JJ., concur.
ROSELLINI, Associate Justice (dissenting.)
The majority in this case has overturned the finding of the trial court that it was the
understanding and agreement of the parties to the limited partnership agreement that the general
partner would buy land and would resell it to the partnership at a reasonable profit to itself. In doing
so, it has not made so bold as to assert that there was no substantial evidence to support this finding.
The trial court found that this agreement, while not expressed in the articles of limited partnership,
was established by the evidence showing the course of dealing between the general partner and the
limited partners over a period of years.
The court specifically found that, prior to purchasing their units of limited partnership, each
of the appellants was advised and understood that the general partner had sold and would sell
property to the partnership and in connection with such sales had made and would make a profit. It
found that, prior to purchasing his units, each partner was informed and understood that contiguous
properties could and would be purchased and that, in connection with said sales of property by the
general partner **239 to the partnership, the general partner would make a profit.
* * *
The most recent transaction upon which the appellants claimed a right to receive the benefit
of the profit made by the general partner involved the acquisition of a tract of land known as the
Murakami property. The trial court found that a number of events which occurred subsequent to the
acquisition of this land by the general partner, and prior to its sale to the partnership, substantially
increased its value. The court found that it was sold to the partnership for a sum which was $138,000
below its fair market value.
The court further found that Auburn West Associates has made and will make a substantial
profit on the Murakami property and upon all of the property transferred to the partnership by the
general partner. It found that the limited partners have received back nearly all of their initial
234
$10,000 in capital from proceeds of sales and condemnation, all of the debts of the partnership have
been paid and there remain approximately 50 acres of property worth approximately $25,000 per
acre.
The majority does not pretend that any of these findings is unsupported by the evidence.
Rather, it rests its reversal of the trial court upon an implied holding either (1) that partners are not
bound under an agreement that the general or managing partner may make a fair and reasonable
profit on a transaction with the partnership, unless the agreement spells out the method of
determining the amount of such profit, or (2) that the terms of an agreement may not be established
by the course of dealing between the parties.
No authority is cited for either proposition and I am convinced that if any such authority
exists, it is contrary to the general principles of contract law, and to those which *931 this court has
applied in determining the rights and obligations of parties who have entered into contracts of
partnership.
* * *
RCW 25.04.210 provides:
(1) Every partner must account to the partnership for any benefit, and hold as
trustee for it any profits derived by him without the consent of the other partners
from *932 any transaction connected with the formation, conduct, or liquidation
of the partnership or from any use by him of its property.
The statute embodies the general rule applicable to partners that a partner may nor derive a
Secret personal profit out of the business or transactions of the firm.
* * *
As the trial court found, the fact that the appellants acquiesced in all transactions prior to the
Murakami sale, after receiving full disclosure of the facts, indicates that they considered the price
fair in each instance and that the transaction was conducted in accordance with the understanding of
the parties. By this course of conduct, the parties manifested their agreement. That agreement
governed the Murakami transaction as well as the previous transactions, according to established
principles of contract law. In Shell Oil Co. v. Wright, 167 Wash. 197, 202, 9 P.2d 106 (1932), we
said:
There can be no question that an unexecuted contract, even though in writing,
may be modified by agreement of both parties, and that, when so modified and
acted upon by the parties, it will be given the same effect as if the modification
was part of the original contract. Tingley v. *935 Fairhaven Land Co., 9 Wash.
34, 36 P. 1098 (1894); La Plante v. Hubbard, 125 Wash. 621, 217 P. 20 (1923);
Hunters Cattle Co. v. Carstens Packing Co., 129 Wash. 377, 225 P. 68 (1924);
Inman v. Roche Fruit Co., 162 Wash. 235, 298 P. 342 (1931).
It is not denied by the majority that the articles of partnership provided no method of
compensating the general partner for its expertise and efforts in acquiring the properties for the
partnership, and that unless the general partner could make a profit on the sale of properties to the
partnership, its services would be bestowed gratuitously. It suggests no reason why the general
235
partner would have been willing to give the partnership the benefit of these services without
compensation.
* * *
The trial court correctly applied the law to the undisputed facts of this case. They show that it
was the understanding of the partners that the general partner would use its expertise and its facilities
to acquire properties which the limited partners acting individually would have been unable to
acquire and upon which they could realize a profit either from development, lease or resale; that it
would sell those properties to the partnership at a fair price which would allow them to make such a
profit and that this was the course of dealing throughout the life of the partnership. The conclusion
that the partnership was bound to *937 pay the price charged by the general partner, which was
below the fair market value, was compelled by the applicable law.
The judgment should be affirmed.
HUNTER and HAMILTON, JJ., concur.
Holzman v. De Escamilla
86 Cal.App.2d 858, 195 P.2d 833 (1948)
HOLZMAN
v.
DE ESCAMILLA et al.
Civ. 3671.
District Court of Appeal, Fourth District, California.
July 23, 1948.
*859 MARKS, Justice.
This is an appeal by James L. Russell and H. W. Andrews from a judgment decreeing they
were general partners in Hacienda Farms, Limited, a limited partnership, from February 27, to
December 1, 1943, and as such were liable as general partners to the creditors of the partnership.
Early in 1943, Hacienda Farms, Limited, was organized as a limited partnership (Secs. 2477
et seq., Civil Code) with Ricardo de Escamilla as the general partner and James L. Russell and H. W.
Andrews as limited partners.
The partnership went into bankruptcy in December, 1943, and Lawrence Holzman was
appointed and qualified as trustee of the estate of the bankrupt. On November 13, 1944, he brought
this action for the purpose of determining that Russell and Andrews, by taking part in the control of
the partnership business, had become liable **834 as general partners to the creditors of the
236
partnership. The trial court found in favor of the plaintiff on this issue and rendered judgment to the
effect that the three defendants were liable as general partners.
The findings supporting the judgment are so fully supported by the testimony of certain
witnesses, although contradicted by Russell and Andrews, that we need mention but a small part of
it. We will not mention conflicting evidence as conflicts in the evidence are settled in the trial court
and not here.
De Escamilla was raising beans on farm lands near Escondido at the time the partnership was
formed. The partnership continued raising vegetable and truck crops which were marketed
principally through a produce concern controlled by Andrews.
The record shows the followng testimony of de Escamilla:
'A. We put in some tomatoes.
'Q. Did you have a conversation or conversations with Mr. Andrews or Mr. Russell
before planting the tomatoes? A. We always conferred and agreed as to what crops
we would put in.* * *
'Q. Who determined that it was advisable to plant watermelons? A. Mr. Andrews. * *
*
'Q. Who determined that string beans should be planted? A. All of us. There was
never any planting done--except the first crop that was put into the partnership as an
asset by myself, there was never any crop that was planted or contemplated in
planting that wasn't thoroughly discussed and agreed upon by the three of us;
particularly Andrews and myself.'
De Escamilla further testified that Russell and Andrews *860 came to the farms about twice a
week and consulted about the crops to be planted. He did not want to plant peppers or egg plant
because, as he said, 'I don't like that country for peppers or egg plant; no, sir,' but he was overruled
and those crops were planted. The same is true of the watermelons.
Shortly before October 15, 1943, Andrews and Russell requested de Escamilla to resign as
manager, which he did, and Harry Miller was appointed in his place.
Hacienda Farms, Limited, maintained two bank accounts, one in a San Diego bank and
another in an Escondido bank. It was provided that checks could be drawn on the signatures of any
two of the three partners. It is stated in plaintiff's brief, without any contradiction (the checks are not
before us) that money was withdrawn on twenty checks signed by Russell and Andrews and that all
other checks except three bore the signatures of de Escamilla, the general partner, and one of the
other defendants. The general partner had no power to withdraw money without the signature of one
of the limited partners.
Section 2483 of the Civil Code provides as follows:
'A limited partner shall not become liable as a general partner, unless, in addition to
the exercise of his rights and powers as a limited partner, he takes part in the control
of the business.'
The foregoing illustrations sufficiently show that Russell and Andrews both took 'part in the
control of the business.' The manner of withdrawing money from the bank accounts is particularly
237
illuminating. The two men had absolute power to withdraw all the partnership funds in the banks
without the knowledge or consent of the general partner. Either Russell or Andrews could take
control of the business from de Escamilla by refusing to sign checks for bills contracted by him and
thus limit his activities in the management of the business. They required him to resign as manager
and selected his successor. They were active in dictating the crops to be planted, some of them
against the wish of Escamilla. This clearly shows they took part in the control of the business of the
partnership and thus became liable as general partners. Tyler v. Wilson, 58 Cal.App.2d 583, 137
P.2d 33.
Judgment affirmed.
BARNARD, P. J., concurs.
First American Title v. Lawson
827 A.2d 230
Supreme Court of New Jersey.
FIRST AMERICAN TITLE INSURANCE COMPANY, Plaintiff-Appellant,
v.
Edward LAWSON, Jr., Esq., Wheeler, Lawson & Snyder, L.L.P., Summit Bank, Adam
M. Slater, Jill L. Slater, K. Hovnanian at Wayne VII, Inc., Kenneth E. Wheeler,
Esq. and Craig J.J. Snyder, Esq., Defendants.
Lawyers Title Insurance Corporation, Plaintiff-Appellant,
v.
Wheeler, Lawson & Snyder, L.L.P., Kenneth C. Wheeler, Esq., Edward Lawson, Jr.,
Esq., Craig J.J. Snyder, Esq. and Sean G. Mason, Defendants.
Certain Underwriters at Lloyd's, London, Plaintiff-Respondent,
v.
Edward Lawson, Jr., Esq., Kenneth E. Wheeler, Esq., Craig J.J. Snyder, Esq. and
Wheeler, Lawson & Snyder, L.L.P., Defendants,
and
K. Hovnanian at Wayne VII, Inc., First American Title Insurance Company and
Lawyers Title Insurance Corporation, Interested Parties.
Argued March 3, 2003.
Decided July 17, 2003.
The opinion of the Court was delivered by
VERNIERO, J.
This case presents difficult questions concerning an attorney's exposure to uninsured liability
while practicing in a law firm organized as a limited liability partnership. The firm's coverage also is
at stake. Specifically, the firm's managing partner knowingly had made material misrepresentations
238
when he applied to an insurer for malpractice coverage on behalf of the firm and its members. The
Appellate Division concluded that such misrepresentations entitled the insurer to consider the firm's
coverage void ab initio, that is, to treat that coverage as if it had never existed for any of the firm's
attorneys or for the firm itself. We reverse in part, and affirm in part. We hold that the firm's policy
is void in respect of the firm as an entity and any defalcating partner, but not in respect of any
innocent partner.
I.
The record in this case is extensive. We summarize only the procedural history and facts that
are relevant to our disposition. The parties do not dispute those facts.
Edward Lawson, Jr. obtained his New Jersey law license in 1992. Kenneth E. Wheeler was
licensed to practice law in Connecticut and in the District of Columbia, but was not licensed in New
Jersey. Lawson and Wheeler formed a law partnership in late 1996 or early 1997. In the spring or
summer of 1997, Craig J.J. Snyder joined the firm, which then became Wheeler, Lawson & Snyder,
L.L.P. Snyder drew up a formal partnership agreement between the parties and registered the firm as
a limited liability partnership with the New Jersey Secretary of State. During all times relevant to
this action, Snyder was licensed to practice law in New York and maintained the firm's Manhattan
office. Unlike Lawson and Wheeler, Snyder performed little or no work in the firm's New Jersey
office, which was located in Guttenberg.
According to Lawson's deposition testimony, Wheeler acted as a closing attorney for several
real estate transactions in New Jersey, even though he was not licensed to practice here. Consistent
with that testimony, Wheeler acted as Lawson's own attorney in a closing involving residential real
estate in Mahwah in January 1999.
Lawson further testified that he had "delegated" to Wheeler the authority to open and
maintain the firm's bank accounts and to maintain the firm's account ledgers. Wheeler purportedly
"knew everything that was going on with the books [.]" In that regard, the firm's "check writing
system ... [and] the on- line banking system [were] on [Wheeler's] computer." Lawson also
indicated that Wheeler "did most, if not all, of the arrangements with the banks" in respect of
distributing real-estate closing checks, regardless of which attorney actually had handled the
particular transaction. All three partners apparently had signatory authority over the firm's business
account. In a certification, however, Snyder indicates that he "never transferred any funds to, from,
or within the [f]irm's New Jersey business or trust accounts." The record indicates that only Wheeler
and Lawson issued checks from the firm's trust account. Lawson considered Wheeler the firm's
managing partner.
In late 1997 or early 1998, Lawson discovered that Wheeler had been transferring money
improperly from various client accounts, including that of Lawson's widowed mother, into other
client accounts and into the firm's business account. When Lawson confronted Wheeler with that
discovery, Wheeler responded that the monies were necessary to pay the firm's expenses. Rather
than halt the practice, Lawson joined Wheeler in what became essentially
a "kiting" scheme whereby monies from one client trust account would be transferred to pay the
239
obligations of another client. Monies were also being transferred from client trust accounts to the
law firm's business account to pay expenses of the law firm, including partners' draws. On
occasion, Lawson also used client trust account funds, including those of his mother, for his own
personal use. By all accounts, Snyder was neither privy, nor a party, to this scheme.
[First American Title Ins. Co. v. Lawson, 351 N.J.Super. 407, 414, 798 A.2d 661 (App.Div.2002).]
On behalf of the firm and its members in December 1997, Wheeler applied for professional
liability insurance through Jamison Special Risk, Inc. (Jamison), a domestic broker for Certain
Underwriters for Lloyd's of London (Underwriters). Wheeler provided information required by the
application and verified the application as a whole. For that purpose, Wheeler used a CNA
application form instead of a form designed specifically for Underwriters.
In completing the application, Wheeler confronted the following three-part question:
After inquiry, is any attorney in your firm aware of:
a. Any professional liability claims made against the firm or any member of the firm within the
past 12 months?
b. Any acts, error or omissions in professional services that may reasonably be expected to be the
basis of a professional liability claim?
c. Have all claims and/or incidents been reported to CNA?
Wheeler checked the box marked "NO" for questions a and b and did not check an answer for
question c.
On April 30, 1998, Wheeler signed a warranty statement asserting to Underwriters that the
information on the CNA application was accurate and that the insurer could rely on it. Based on that
application and statement, Underwriters subscribed a professional liability policy on the firm's
behalf, beginning April 19, 1998, and expiring April 19, 1999. The policy defines "Insured" to
include the firm as the "Named Insured" and "any lawyers who are partners in the Named Insured ...
but solely for Acts on behalf of the Named Insured[.]" The insurer also issued a certificate of
insurance, dated May 8, 1998, naming the Clerk of this Court as certificate holder.
The firm facilitated financing for the policy by entering into an agreement with Imperial
Premium Finance, Inc. (Imperial). Under that agreement, the firm designated Imperial as its
attorney-in-fact, granting it the right to cancel the policy if the firm did not pay the required
premiums. When it did not receive a payment of premium due in December 1998, Imperial
purportedly mailed the firm a notice of intent to cancel the policy. The cancellation eventually
occurred as of January 16, 1999. Jamison, Underwriters' broker, wrote to Wheeler offering to
reinstate the policy should Imperial receive the firm's payment of premium and a renewed warranty
statement.
At about the same time, this Court's Office of Attorney Ethics (OAE) notified the firm that
the OAE would be conducting an audit of the firm's books. The OAE acted as a result of three
grievances that it had received concerning the firm's handling of certain real estate transactions.
That notice is dated January 8, 1999.
240
On January 22, 1999, presumably after the firm had received the audit notice, Wheeler
executed the new warranty. In so doing, he affirmed:
I am not aware of any claims being made during the past five years against the firm or any of its
past or present owners, partners, shareholders, corporate officers or employees or predecessors in
business. I am also not aware of any circumstances or any allegations or contentions as to any
incident, which may result in a claim being made against the firm or any of its past or present
owners, partners, shareholders, corporate officers or employees or its predecessors in business.
Wheeler delivered the warranty to Jamison by faxing it on January 26, 1999.
On that same day, the OAE sought the temporary suspension of Lawson from the practice of
law. This Court suspended Lawson about a week later, In re Lawson, 157 N.J. 79, 722 A.2d 1288
(1999), and ultimately disbarred him. In re Lawson, 165 N.J. 201, 755 A.2d 1167 (2000).
As a result of the numerous defalcations, First American Title Insurance Company (First
American) and Lawyers Title Insurance Corporation (Lawyers Title) (collectively, the title insurers)
each paid claims to various individuals. The title insurers in turn sought recovery from the firm and
its partners. More specifically, First American initiated this action by filing a verified complaint
*133 alleging that Lawson, as counsel to certain buyers, did not pay $339,212 due to a seller of real
property. First American also named the firm as a defendant. It filed a second complaint reasserting
the prior claims and adding claims that Lawson had failed to satisfy an outstanding mortgage in the
approximate amount of $97,285 in another real estate closing in which he represented the buyer. In
the second complaint (which eventually was consolidated with the first complaint), First American
included Lawson's two partners, Wheeler and Snyder, as individual defendants.
Similarly, Lawyers Title brought a complaint against the firm and against Wheeler, Lawson,
and Snyder individually. That complaint alleges that certain clients of Lawson, who were purchasers
of real property, deposited $143,763 into a client trust account. It asserts that the check that Lawson
had issued from that account to pay off a prior mortgage on the property was returned for insufficient
funds. Lawyers Title further alleges that Lawson failed to record a mortgage as representative for
another purchaser of real property.
Apparently unaware of the firm's legal problems, Jamison notified Wheeler in February
1999, that the firm's policy had been reinstated. Snyder thereafter sent Jamison a notice of insurance
claim regarding the above matters. The carrier denied those claims.
Underwriters then filed a declaratory judgment action alleging that the firm's policy "was
cancelled as of January 16, 1999" and that the purported reinstatement "was void by reason of the
material misrepresentation set forth in the Warranty[.]" After Underwriters had filed that action,
Lawyers Title amended its complaint, asserting additional counts against both the firm and its
individual partners. First American amended its complaint to assert that the firm's limited liability
partnership status should be declared void for failure to maintain professional liability insurance as
required by our Rules of Court.
241
Snyder answered Underwriters' complaint and asserted certain affirmative defenses,
including that he "never supervised, condoned or encouraged [Lawson] to commit any of the acts
alleged in the complaint." Snyder also filed a cross-claim for contribution from, and indemnification
by, Lawson and filed a counterclaim against Underwriters for coverage under the firm's policy.
Underwriters answered Snyder's counterclaim by denying his claims for coverage and asserting
certain separate defenses, including that the policy was cancelled as of January 16, 1999, and was
not reinstated validly. Underwriters' answer further asserts that the policy excluded coverage for
"claims arising out of criminal conduct or activity, as well as claims arising out of any dishonest,
fraudulent, malicious or intentional acts."
The three actions eventually were consolidated. First American, Lawyers Title, and
Underwriters filed respective motions seeking summary judgment. The trial court consolidated the
parties' motions and disposed of them by orders issued in July 2001 and September 2001.
Although it concluded that the firm's policy did not insure against Lawson's and Wheeler's
"criminal and/or dishonest conduct," the trial court found that the policy did cover the firm's liability
as a separate legal entity distinct from that of its individual partners. The court concluded that the
firm's insurance with Underwriters was not void and had not been cancelled properly. It thus granted
summary judgment in favor of the title insurers and against Underwriters, indicating that the former
entities were "entitled to coverage under [Underwriters'] policy for their respective damages to be
determined at a subsequent hearing[.]"
The Appellate Division granted leave to appeal on behalf of Underwriters and reversed the
trial court's determination in a reported decision. First American, supra, 351 N.J.Super. at 412, 417
n. 2, 798 A.2d 661. The panel held that the above facts rendered the policy void for all purposes. Id.
at 426, 798 A.2d 661. In view of that conclusion, the Appellate Division did not resolve any issue
that was dependent on the policy's existence, such as whether Underwriters properly had cancelled
the policy in accordance with its contractual terms and applicable statutory law. Ibid. First American
and Lawyers Title moved separately before this Court for leave to appeal, and we granted both
motions. 174 N.J. 357, 807 A.2d 191 (2002).
II.
To resolve this appeal, we must analyze the interplay between two established bodies of law.
The first set of rules, arising in the corporate field, establishes the parameters of liability for
individual partners of a limited liability partnership. The second, arising under insurance law,
permits an insurer to rescind coverage when an insured, in applying for that coverage, has
misrepresented a material fact. Because the parties' dispute centers on the conduct of attorneys, we
also must consider our Rules of Court that seek to protect consumers of legal services by mandating
that New Jersey attorneys maintain adequate insurance in certain circumstances. This case
ultimately requires us to strike an appropriate balance in applying those sometimes competing tenets.
A.
We briefly review the law governing limited liability partnerships. At all times relevant to
this action, those rules were codified under the Uniform Partnership Law, N.J.S.A. 42:1-1 to -49
242
(UPL or Law). In December 2000, the Legislature repealed and replaced the UPL with the Uniform
Partnership Act, N.J.S.A. 42:1A-1 to -56, L. 2000, c. 161 (UPA or Act). Because the parties do not
dispute that the UPL was in effect when this action's underlying facts arose, we focus our analysis on
that statute rather than on the current UPA.
The UPL states, in relevant part:
c. Subject to subsection d. of this section, a partner in a limited liability partnership is not liable,
either directly or indirectly, by way of indemnification, contribution, assessment or otherwise, for
debts, obligations and liabilities of or chargeable to the partnership, whether in tort, contract or
otherwise, arising from negligence, omissions, malpractice, wrongful acts, or misconduct
committed while the partnership is a limited liability partnership and in the course of the limited
liability partnership business by another partner or an employee, agent, or representative of the
limited liability partnership.
d. Subsection c. of this section shall not affect the liability of a partner in a limited liability
partnership for his own negligence, omissions, malpractice, wrongful acts, or misconduct, or that
of any person under his direct supervision and control.
[N.J.S.A. 42:1-15, L. 1995, c. 96, § 3.]
The UPL also incorporates agency principles to the law governing partnerships. The statute
provides:
Every partner is an agent of the partnership for the purpose of its business, and the act of every
partner, including the execution in the partnership name of any instrument, for apparently carrying
on in the usual way the business of the partnership of which he is a member binds the partnership,
unless the partner so acting has in fact no authority to act for the partnership in the particular
matter, and the person with whom he is dealing has knowledge of the fact that he has no such
authority.
[N.J.S.A. 42:1-9.1, L. 1919, c. 212, § 9.]
Harmonizing the meaning of the above provisions, two principles emerge under the UPL.
First, any partner can execute any instrument, such as an application for insurance requiring the
payment of premiums, and in so doing can bind the partnership as a whole in the ordinary course of
its business. Thus, any one partner can incur general business indebtedness on the partnership's
behalf. Second, when a firm is a limited liability partnership, a special rule exists to shield partners
from incurring liability arising solely from the wrongful acts of fellow partners. Although they
remain liable for their own personal misconduct, partners of a limited liability partnership are not
responsible for the professional negligence or wrongful acts of other partners.
B.
The law is well settled that equitable fraud provides a basis for a party to rescind a contract.
* * * "In general, equitable fraud requires proof of (1) a material misrepresentation of a presently
existing or past fact; (2) the maker's intent that the other party rely on it; and (3) detrimental
243
reliance by the other party." Liebling v. Garden State Indem., 337 N.J.Super. 447, 453, 767 A.2d
515 (App.Div.), certif. denied, 169 N.J. 606, 782 A.2d 424 (2001). Rescission voids the contract ab
initio, meaning that it is considered "null from the beginning" and treated as if it does not exist for
any purpose. Black's Law Dictionary 1568 (7th ed.1999). Within the context of an insurance
contract,
a representation by the insured, whether contained in the policy itself or in the application for
insurance, will support the forfeiture of the insured's rights under the policy if it is untruthful,
material to the particular risk assumed by the insurer, and actually and reasonably relied upon by
the insurer in the issuance of the policy.
[Allstate Ins. Co. v. Meloni, 98 N.J.Super. 154, 158-59, 236 A.2d 402 (App.Div.1967).]
In evaluating an insurance application that calls for subjective information, there is an
additional inquiry, i.e., whether the insured knew that the information was false when completing the
application. * * * Examples of subjective information include when an insurer asks an insured to
indicate a belief about the status of his or her health, ibid., or when, as here, an insurer asks whether
an applicant "is aware of any circumstances which may result in a claim being made against the
firm[.]" First American, supra, 351 N.J.Super. at 419, 798 A.2d 661. "[A] subjective question will
not constitute equitable fraud if the question is directed toward probing the knowledge of the
applicant and determining the state of his mind and ... the answer is a correct statement of the
applicant's knowledge and belief [.]" Ledley, supra, 138 N.J. at 636, 651 A.2d 92 (internal quotation
marks and citation omitted).
*
*
*
III.
In applying the foregoing tenets, our threshold inquiry focuses on Wheeler's responses
recorded on the insurance application form and his statements contained in the two warranties.
Wheeler obviously knew that his April 30, 1998, warranty was false based on his own conduct in
engaging in the unauthorized practice of law and in misappropriating client funds in concert with
Lawson. Further, on January 22, 1999, with knowledge of his and Lawson's defalcations and with
presumed knowledge of the impending OAE audit, Wheeler executed a new warranty. It falsely
represents that he was "not aware of any circumstances or any allegations or contentions as to any
incident, which may result in a claim being made against the firm or any of its ... partners[.]"
Under those circumstances, the Appellate Division correctly found "that no reasonable
factfinder could conclude anything other than that Wheeler knew his [answers and statements] to be
false." First American, supra, 351 N.J.Super. at 420, 798 A.2d 661. We also agree that the other
prongs of the equitable-fraud test have been satisfied insofar as Wheeler is concerned.
[T]here [is no] question, in our view, that Wheeler's failure to disclose constituted a material
misrepresentation, as found by the trial judge himself, and one that was detrimentally relied upon
by [Underwriters]. It seems clear that the very nature of the omission was such as to "naturally
and reasonably influence the judgment of the underwriter in making the contract at all, or in
244
estimating the degree or character of the risk, or in fixing the rate of the premium." It is equally
clear that [Underwriters] would not have subscribed to the policy had Wheeler's criminal and
fraudulent activities been known.
[Id. at 420, 798 A.2d 661 (internal citations omitted).]
The thornier question concerns whether and to what extent Wheeler's misrepresentations
should result in a forfeiture of coverage. Resolution of that question requires four distinct inquiries:
whether coverage should be rescinded in respect of (1) Wheeler, (2) Lawson, (3) the firm as an
entity, and (4) Snyder. We will address each inquiry separately and in that order.
We have no difficulty discerning the consequences of Wheeler's misrepresentations in
respect of Wheeler himself. Our case law provides Underwriters with the clear right to rescind
Wheeler's coverage in the face of his blatant and direct misrepresentations. We disagree with the
title insurers that the exclusive remedy for such fraud is cancellation of the policy that would take
effect only prospectively. As the Appellate Division properly observed, rescission is an equitable
remedy that "operates as a matter of law, not contract. It lies within the inherent discretion of the
court." Id. at 423, 798 A.2d 661. We therefore conclude that Wheeler's misconduct entitles
Underwriters to consider the policy void insofar as that individual is concerned.
Similarly, the carrier is entitled to rescind coverage in respect of Lawson. Lawson's role in
furnishing the misinformation to Underwriters is not as clear or direct as Wheeler's role. Lawson's
conduct in misappropriating client funds, however, was so intertwined with that of Wheeler's, that
we are left with the unmistakable conclusion that Lawson knew or should have known that the forms
submitted to the carrier contained false or misleading information. Cf. Palisades Safety & Ins. Ass'n
v. Bastien, 175 N.J. 144, 151, 814 A.2d 619 (2003) (holding that husband's material
misrepresentation to carrier voided wife's personal injury protection (PIP) benefits in part because
she had occupied "unique position to be aware of" husband's actions). There are no questions
concerning either Lawson or Wheeler for a jury to resolve; thus, the policy is void in respect of both
individuals.
We next consider whether Underwriters is entitled to rescind coverage in respect of the firm
as an entity. There, the analysis is not as straightforward. One complicating factor is that prior New
Jersey cases that have permitted rescission have concerned individual insureds, or sole- practitioner
entities, rather than multi-person firms like the entity in this case. See, e.g., Gallagher v. New
England Mut. Life Ins. Co. of Boston, 19 N.J. 14, 114 A.2d 857 (1955) (concerning two life
insurance policies); Liebling, supra, 337 N.J.Super. 447, 767 A.2d 515 (pertaining to sole legal
practitioner); Booker v. Blackburn, 942 F.Supp. 1005 (D.N.J.1996) (focusing on professionalliability insurance for single-member engineering firm).
We are persuaded that we should extend the holding of those cases to the firm as a whole.
Because he was the firm's managing partner, Wheeler occupied a special status as the person chiefly
responsible for the application process. Permitting the firm's coverage to survive Wheeler's
defalcations would, in essence, condone the use of a partnership entity as a subterfuge for fraudulent
conduct. This is not a case in which a lone attorney in a multi-person firm knowingly had supplied
the managing partner with false information that the partner merely forwarded to the carrier without
245
knowledge of its falsity. Rather, two of the firm's three partners had engaged in wrongful conduct
and the managing partner, himself a wrongdoer, had concealed that conduct when applying for the
firm's policy. On those facts, the carrier is entitled to rescind its coverage of the firm as an entity.
The remaining issue concerning Snyder's coverage is the most difficult. Many of the same
concepts that support voiding the policy in respect of Wheeler, Lawson, and the firm as a whole also
support voiding it in respect of Snyder. Snyder, however, in no way participated in the fraudulent
conduct of his fellow partners. Lawson testified that Snyder did not engage in any misappropriation
and had no knowledge of any improprieties or that the firm was foundering. Further, Lawson did not
inform Snyder of the grievances filed with the OAE or that the OAE had demanded an audit. Snyder
also was a distant partner in the sense that he did not share offices with Lawson and Wheeler, but
instead conducted his practice in a separate Manhattan office that he alone maintained. Because he
did not issue checks from the firm's New Jersey accounts, Snyder presumably was unfamiliar with
the firm's trust-account ledger or with similar records that Wheeler maintained as managing partner.
Those facts require us to consider Snyder an innocent partner for purposes of balancing the
equities attendant in these circumstances. Further, by organizing the firm as a limited liability
partnership, Snyder had every reason to expect that his exposure to liability would be circumscribed
in accordance with the Uniform Partnership Law. Stated differently, voiding Snyder's coverage
solely because of his partners' wrongful conduct potentially would expose Snyder to uninsured
liability in a manner inconsistent with his expectations under the UPL. (We express no opinion
regarding Snyder's actual liability to any party, or regarding whether any allegation against Snyder is
excluded from coverage in accordance with the policy's contractual terms. Our sole task is to
determine whether the policy itself is void as a matter of law as applied to Snyder.)
Moreover, voiding the policy in respect of Snyder would mean that he no longer would
possess coverage for any of his actions in unrelated matters, including simple malpractice, that might
have occurred during the period of anticipated coverage. Thus, applying the rule of law advocated
by Underwriters could leave members of the public, whom Snyder had represented throughout that
period, unprotected even though the insured himself committed no fraud. In our view, that harsh and
sweeping result would be contrary to the public interest. More specifically, it would be inconsistent
with the policies underlying our Rules of Court that seek to protect consumers of legal services by
requiring attorneys to maintain adequate insurance in this setting. Cf. Fisher v. New Jersey Auto.
Full Ins. Underwriting Ass'n, 224 N.J.Super. 552, 557-58, 540 A.2d 1344 (App.Div.1988) (allowing
PIP benefits for innocent third parties even when underlying insurance policy otherwise is void due
to policyholder's misrepresentations).
We thus conclude that the equities do not warrant rescission of Snyder's coverage. We
reiterate that our holding is confined solely to that narrow legal question. The Court does not
suggest an opinion in respect of the scope of that coverage or any other issue as it might relate to the
policy's existence insofar as Snyder is concerned. Understandably, the Appellate Division found no
need to review any question regarding Snyder given its original disposition. Accordingly, we
remand the matter to the Appellate Division to consider any issue that it might deem appropriate for
resolution in view of this opinion.
Lastly, we acknowledge that rescinding the policy in respect of Lawson, Wheeler, and the
246
firm as an entity, but not in respect of Snyder, encompasses a certain degree of line drawing. Unlike
the dissent, however, we are convinced that our disposition is consistent with rescission as an
equitable remedy, which properly depends on the totality of circumstances in a given case and
resides within a court's discretion. See Intertech Assocs., Inc. v. City of Paterson, 255 N.J.Super. 52,
59, 604 A.2d 628 (App.Div.1992) (observing that "[e]ven where grounds for rescission exist ... the
remedy is discretionary"). Here, those circumstances include our concern for the public, which
distinguishes this matter from the more typical contract case. As the trial court succinctly observed:
"Equitable relief does not mean automatic relief." We view the underlying policy as being
sufficiently divisible in respect of each individual partner so that partial rescission is a permissible
remedy on the facts before us. Thus, to the extent that we have drawn certain boundaries in
disposing of this appeal, the competing equities have required it. As for future disputes, we do not
share the dissent's optimism that innocent attorneys and consumers of legal services would be
adequately protected absent our carefully designed holding.
IV.
The judgment of the Appellate Division is affirmed in part and reversed in part. The matter
is remanded to that court to consider those issues, if any, that it might deem appropriate for
resolution consistent with this opinion. We do not retain jurisdiction.
LaVECCHIA, J., dissenting.
I would affirm the Appellate Division decision for the reasons expressed in the persuasive
opinion authored by Judge Parrillo. I add only the following comments.
Distilled, this case is about whether plaintiff title insurers must bear full responsibility on a
risk those companies, in fact, agreed to insure or whether their respective liabilities may be lightened
by requiring a malpractice insurer to provide coverage under a policy it would not have issued but
for the insured's misrepresentations in its application. I am loath to join a result that could be
perceived as tolerating fraudulent procurement of insurance. The majority grants what amounts to
partial rescission of a professional liability policy that, in my view, should be deemed void ab initio
as procured based on fraudulent representations. Allowing coverage for even one of the three
attorneys comprising the law firm that misrepresented on the application for insurance ignores the
critical fact that the insurer never would have issued a policy covering the firm and its partners but
for the deceit of one partner (who stole money from clients), the complicity of a second partner, and
the indifference of a third partner.
Rescission is appropriate where a material misrepresentation is made with the intent that it
will be relied upon, and the misrepresentation is, in fact, relied upon to one's detriment. Jewish Ctr.
of Sussex County v. Whale, 86 N.J. 619, 624-25, 432 A.2d 521 (1981); 2 Couch on Insurance §
31:81 (3d ed. 1995 & Supp.2003). Although that is precisely what happened in this case, the
majority stops short of rescinding the entire insurance policy, as would normally occur when a
contract of insurance is declared void ab initio, and instead orders partial rescission of the contract.
See Mass. Mun. Wholesale Elec. Co. v. Town of Danvers, 411 Mass. 39, 577 N.E.2d 283, 292-93
(1991) (stating general rule that "[a] contract which is void ab initio, or void from the beginning,
247
may not be enforced" and noting that "[j]udicial or equitable doctrines cannot breathe life into such a
contract" given that "courts treat the contract as if it had never been made"); see also Remsden v.
Dependable Ins. Co., 71 N.J. 587, 589, 367 A.2d 421 (1976) (stating material misrepresentations in
application justify rescission of policy ab initio ).
It is generally accepted that partial rescission is appropriate as a remedy only where a
contract is divisible, the basis for rescission does not affect the whole contract, and the facts of a case
warrant such relief. 2 Couch on Insurance, supra, § 31:69; see also County of Morris v. Fauver,
153 N.J. 80, 97, 707 A.2d 958 (1998) (stating "[o]nly where a contract is severable into different
transactions may one of those separate transactions be avoided"); Bonnco Petrol, Inc. v. Epstein, 115
N.J. 599, 612, 560 A.2d 655 (1989) (acknowledging rule that "a contract is not to be partially
rescinded"). This case does not present an opportunity for application of partial rescission, however
seductive that result may be. We do not have a divisible contract. The subject policy covered a law
firm comprised of three partners. The misrepresentations concerning potential professional liability
claims, made during the application process, were made on behalf of the entire firm. That three
attorneys, acting on behalf of the firm, were insured under the policy does not render the policy
divisible into different transactions.
Even if the policy were divisible as to each named insured, total rescission is still warranted
where the fraud goes to procurement of the entire contract. 2 Couch on Insurance, supra, § 31:68
(stating that "the ground for rescission may be such as to affect the validity of all parts of the
contract, whether divisible or not, in which case a decree rescinding the entire contract is of course
proper"). Cf. ibid. (noting that "where two policies are issued upon a single application which is
fraudulent, both policies may be rescinded"). The basis for rescission here--material
misrepresentations concerning potential claims on the application for a claims-made professional
liability insurance policy--most assuredly affected the validity of the entire contract. Accord Home
Indem. Co. v. Toombs, 910 F.Supp. 1569 (N.D.Ga.1995) (rescinding legal malpractice policy as to
entire firm based on material misrepresentation in application).
As an inherently discretionary remedy, rescission is awarded on a case-by-case basis. * * *
I leave for another day whether equity would not allow rescission of professional liability insurance
policies in other settings. Query whether rescission would be allowed where a partner in a firm was
guilty of malfeasance and successfully concealed his misdeeds from other partners who were
responsible for procuring insurance and who undertook to inform themselves generally about the
firm's work, including the safeguarding of client trust fund accounts. There, and in other settings,
the equities might be poised differently than they are here. I trust that in future cases the factsensitive equitable analysis required for rescission would protect the overwhelming majority of
conscientious law firms and attorneys licensed to practice in this State. But traditional rules of
contract rescission do not support the partial rescission that the majority orders here. The Appellate
Division rightly concluded that this is a classic case for rescinding coverage in favor of the
defrauded insurance company.
For affirmance in part; reversal in part; remandment--Chief Justice PORITZ and Justices
COLEMAN, LONG, VERNIERO, ZAZZALI and ALBIN--6.
For affirmance--Justice LaVECCHIA--1.
248
Corporation Cases
Louis K. Liggett Co. v. Lee
288 U.S. 517, 53 S.Ct. 481 (1933)
LOUIS K. LIGGETT CO. et al.
v.
LEE, Comptroller of State of Florida, et al. [FN*]
FN* For conforming opinion of Supreme Court of Florida, see 149 So. 8.
No. 301.
Supreme Court of the United States
Argued Jan. 12--13, 1933.
Decided March 13, 1933.
Mr. Justice ROBERTS delivered the opinion of the Court.
* * *
Whether the corporate privilege shall be granted or withheld is always a matter of state
policy. If granted, the privilege is conferred in order to achieve an end which the state deems
desirable. It may be granted as a means of raising revenue; or. in order to procure for the community
a public utility, a bank, or a desired industry not otherwise obtainable; or the reason for granting it
may be to promote more generally the public welfare by providing an instrumentality of business
which will facilitate the establishment and conduct of new and large enterprises deemed of public
benefit. Similarly, if the privilege is denied, it is denied because incidents of like corporate enterprise
are deemed inimical to the public welfare and it is desired to protect the community from
apprehended harm
* * *
Second. The prevalence of the corporation in America has led men of this generation to act,
at times, as if the privilege of doing business in corporate form were inherent in the citizen; and has
led them to accept the evils attendant upon the free and unrestricted use of the corporate mechanism
as if these evils were the inescapable price of civilized life, and, hence, to be borne with resignation.
Throughout the greater part of our history a different view prevailed. Although the value of this
instrumentality in commerce and industry was fully recognized, incorporation for business was
commonly denied long after it had been freely granted for religious, educational, and charitable
purposes. [FN2] by corporations. So at first the corporate of encroachment upon the liberties and
249
opportunities of the individual. Fear of the subjection of labor to capital. Fear of monopoly. Fear
that the absorption of capital by corporations, and their perpetual life, might bring evils similar to
those which attended mortmain. [FN3] *549 There was a sense of some insidious menace inherent in
large aggregations of capital, particularly when held by corporations. So at first the corporate
privilege was granted sparingly; and only when the grant seemed necessary in order to procure for
the community some specific benefit otherwise unattainable. The later enactment of general
incorporation laws does not signify that the apprehension of corporate domination had been
overcome. The desire for business expansion created an irresistible demand for more charters; and it
was believed that under general laws embodying safeguards of universal application the scandals and
favoritism incident to special incorporation could be avoided. The general laws, which long
embodied severe restrictions upon size and upon the scope of corporate activity, were, in part, an
expression of the desire for equality of opportunity. [FN4]
* * *
*550 (a) Limitation upon the amount of the authorized capital of business corporations was long
universal. [FN5] The maximum limit frequently**491 varied with the kinds of business to be carried
on, being dependent apparently upon the supposed requirements of the efficient unit. Although the
statutory limits were changed from time to time, this principle of limitation was long retained. Thus
*551 in New York the limit was at first $100,000 for some businesses and as little as $50,000 for
others. [FN6] Until 1881 the maximum for business corporations in New York was $2,000,000; and
until 1890, $5,000,000. [FN7] In Massachusetts the limit was at first $200,000 for some businesses
and as little as $5,000 for others. [FN8] Until 1871 the maximum for mechanical and manufacturing
corporations was *552 $500,000; and until 1899 $1,000,000. [FN9] The limit of $1,000,000 was
retained for some businesses until 1903. [FN10]
* * *
(b) Limitations upon the scope of a business corporation's powers and activity were also long
universal. At first, corporations could be formed under the general laws only for a limited number of
purposes--usually those which required a relatively large fixed capital, like transportation, banking,
and insurance, and mechanical, mining, *555 and manufacturing enterprises. [FN27] Permission to
incorporate for 'any lawful purpose' [FN28] was not common until 1875; and until that time the
duration of corporate franchises was generally limited to a period of 20, 30, or 50 years. [FN29] All,
or a majority, of the incorporators or directors, or both, were required to be residents of the
incorporating state. [FN30] The powers which the corporation might exercise in carrying out its
purposes were sparingly conferred and strictly construed. Severe limitations were imposed on the
amount of indebtedness, bonded or otherwise. [*556 FN31] The **493 power to hold stock in other
corporations was not conferred or implied. [FN32] The holding company was impossible.
* * *
*557 (c) The removal by the leading industrial states of the limitations upon the size and
powers of business corporations appears to have been due, not to their conviction that maintenance
of the restrictions was undesirable in itself, but to the conviction that it was futile to insist upon
them; because local restriction would be circumvented by foreign incorporation. Indeed, local
restriction seemed worse than futile. Lesser states, eager for the revenue [FN33] derived from the
traffic in charters, had removed safeguards from their own incorporation laws. [FN34] *558
Companies were early formed to provide charters for corporations in states where the cost was
250
lowest and the laws least restrictive. [FN35] The **494 states joined in advertising *559 their wares.
[FN36] The race was one not of diligence but of laxity. [FN37] Incorporation under such laws was
possible; and the great industrial States yielded in order not to *560 lose wholly the prospect of the
revenue and the control incident to domestic incorporation.
* * *
Thus the Massachusetts revision of 1903 was precipitated by the fact that 'the possibilities of
incorporation in other states have become well known, and have been availed of to the detriment of
this Commonwealth.' [FN49]
* * *
Third. Able, discerning scholars [FN50] have pictured for us the economic and social results
of thus removing all limitations upon the size and activities of business corporations *565 and of
vesting in their managers vast powers once exercised by stockholders--results not designed by the
states and long unsuspected. They show that size alone gives to giant corporations a social
significance not attached ordinarily to smaller units of private enterprise. Through size, corporations,
once merely an efficient tool employed by individuals in the conduct of private business have
become an institution--an institution which has brought such concentration of economic power that
so-called private corporations are sometimes able to dominate the state. The typical business
corporation of the last century, owned by a small group of individuals, managed by their owners, and
limited in size by their personal wealth, is being supplanted by huge concerns in which the lives of
tens or hundreds of thousands of employees and the property of tens or hundreds of thousands of
investors are subjected, through the corporate mechanism, to the control of a few men. Ownership
has been separated from control; and this separation has removed many of the checks which
formerly operated to curb the misuse of wealth and power. And, as ownership of the shares is
becoming continually more dispersed, the power which formerly accompanied ownership is
becoming increasingly concentrated in the hands of a few. The changes thereby wrought in the lives
of the workers, of the owners and of the general public, are so fundamental and far-reaching as to
lead these scholars to compare the evolving 'corporate system' with the feudal system; and to lead
other men of insight and experience to assert that this 'master institution of civilised life' is
committing it to the rule of a plutocracy. [FN51]
* * *
The data submitted in support of these conclusions indicate that in the United States the
process of absorption *566 has already advanced so far that perhaps two-thirds of our industrial
wealth has passed from individual possession to the ownership of large corporations whose shares
are dealt in on the stock exchange; [FN52] that 200 nonbanking corporations, each with assets in
excess of $90,000,000, control directly about one-fourth of all our national wealth, and that their
influence extends far beyond the assets under their direct control; [FN53] that these 200
corporations, while nominally controlled by about 2,000 directors, are actually dominated by a few
hundred persons [FN54]--the negation of industrial democracy. Other writers have shown that,
**497 coincident with the growth of these giant corporations, there has occurred a marked
concentration of individual wealth; [FN55] and that the resulting disparity in *567 incomes is a
major cause of the existing depression. [FN56] Such is the Frankenstein monster which states have
created by their corporation laws. [FN57]
* * *
251
My vote is for affirmance
I am authorized to state that Mr. Justice STONE concurs in this opinion.
Frigidaire Sales Corp. v. Union Properties, Inc.
88 Wash.2d 400, 562 P.2d 244 (1977)
FRIGIDAIRE SALES CORPORATION, Petitioner,
v.
UNION PROPERTIES, INC., et al., Respondents
No. 44262
Supreme Court of Washington, En Banc
April 7, 1977
HAMILTON, Associate Justice.
Petitioner, Frigidaire Sales Corporation, sought review of a Court of Appeals decision which
held that limited partners do not incur general liability for the limited partnership's obligations
simply because they are officers, directors, or shareholders of the corporate general partner.
Frigidaire Sales Corp. v. Union Properties, Inc., 14 Wash.App. 634, 544 P.2d 781 (1975). We
granted review, and now affirm the decision of the Court of Appeals
The facts of the case are adequately set out in the Court of Appeals opinion, and only a
cursory summation need be repeated here. Petitioner entered into a contract with Commercial
Investors (Commercial), a limited partnership. Respondents, Leonard Mannon and Raleigh Baxter,
were limited partners of Commercial. Respondents were also officers, directors, and shareholders of
Union Properties, Inc., the only general partner of Commercial. Respondents controlled Union
Properties, and through their control of *402 Union Properties they exercised the day-to-day control
and management of Commercial. Commercial breached the contract, and petitioner brought suit
against Union Properties and respondents. The trial court concluded that respondents did not incur
general liability for Commercial's obligations by reason of their control of Commercial, and the
Court of Appeals affirmed
We first note that petitioner does not contend that respondents acted improperly by setting up
the limited partnership with a corporation as the sole general partner. Limited partnerships are a
statutory form of business organization, and parties creating a limited partnership must follow the
statutory requirements. In Washington, parties may form a limited partnership with a corporation as
the sole general partner. See RCW 25.04.020 and RCW 25.04.060(3); RCW 25.08.010 and RCW
25.08.070(2)(a)
Petitioner's sole contention is that respondents should incur general liability for the limited
partnership's obligations under RCW 25.08.070, [FN1] because they exercised the *403 **246 day252
to-day control and management of Commercial. Respondents, on the other hand, argue that
Commercial was controlled by Union Properties, a separate legal entity, and not by respondents in
their individual capacities.
* * *
Petitioner cites Delaney v. Fidelity Lease Ltd., 526 S.W.2d 543 (Tex.1975), as support for its contention
that respondents should incur general liability under RCW 25.08.070 for the limited partnership's
obligations. That case also involved the issue of liability for limited partners who controlled the
limited partnership as officers, directors, and shareholders of the corporate general partner. The
Texas Supreme Court reversed the decision of the Texas Court of Civil Appeals and found the
limited partners had incurred general liability because of their control of the limited partnership. See
Delaney v. Fidelity Lease Ltd., 517 S.W.2d 420 (Tex.Civ.App.1974), Rev'd, 526 S.W.2d 543
(Tex.1975)
We find the Texas Supreme Court's decision distinguishable from the present case. In
Delaney, the corporation and the limited partnership were set up contemporaneously, and the sole
purpose of the corporation was to operate the limited partnership. The Texas Supreme Court found
that the limited partners who controlled the corporation were obligated to their other limited partners
to operate the corporation for the benefit of the partnership. "Each act was done then, not for the
corporation, but for the partnership." Delaney v. Fidelity Lease Ltd., 526 S.W.2d 543, 545
(Tex.1975), quoting from the dissenting opinion in Delaney v. Fidelity Lease Ltd., 517 S.W.2d 420,
426 (Tex.Civ.App.1974). This is not the case here. The pattern of operation of Union Properties
was to investigate and conceive of real estate investment opportunities and, when it found such
opportunities, to cause the creation of limited partnerships with Union Properties acting as the
general *404 partner. Commercial was only one of several limited partnerships so conceived and
created. Respondents did not form Union Properties for the sole purpose of operating Commercial.
Hence, their acts on behalf of Union Properties were not performed merely for the benefit of
Commercial.
* * *
However, we agree with our Court of Appeals analysis that this concern with minimum
capitalization is not peculiar to limited partnerships with corporate general partners, but may arise
anytime a creditor deals with a corporation. See Frigidaire Sales Corp. v. Union Properties, Inc.,
supra 14 Wash.App. at 638, 544 P.2d 781. Because our limited partnership statutes permit parties to
form a limited partnership with a corporation as the sole general partner, this concern about minimal
capitalization, standing by itself, does not justify a finding that the limited partners incur general
liability for their control of the corporate general partner. See A. Bromberg, **247 Crane and
Bromberg on Partnership s 26 at 146--47 (1968). If a corporate general partner is inadequately
capitalized, the rights of a creditor are adequately protected under the 'piercing-the-corporate-veil'
doctrine of corporation law. * * *
Furthermore, petitioner was never led to believe that respondents were acting in any capacity
other than in their corporate capacities. The parties stipulated at the trial that respondents never
acted in any direct, personal capacity. When the shareholders of a corporation, who are also the
corporation's officers and directors, conscientiously keep the affairs of the corporation separate from
their personal affairs, and no fraud or manifest injustice is perpetrated upon third persons who deal
with the corporation, the corporation's separate entity should be respected. * * *
253
For us to find that respondents incurred general liability for the limited partnership's
obligations under RCW 25.08.070 would require us to apply a literal interpretation of the statute and
totally ignore the corporate entity of Union Properties, when petitioner knew it was dealing with that
corporate entity. There can be no doubt that respondents, in fact, controlled the corporation.
However, they did so only in their capacities as agents for their principal, the corporate general
partner. Although the corporation was a separate entity, it could act only through its board of
directors, officers, and agents. Beall v. Pacific Nat'l Bank, 55 Wash.2d 210, 347 P.2d 550 (1959);
See RCW 23A.08.340 and RCW 23A.08.470. Petitioner entered into the contract with Commercial.
Respondents signed the contract in their capacities as president and secretary-treasurer of Union
Properties, the general partner of Commercial. In the eyes of the law it was Union Properties, as a
separate corporate entity, which entered into the contract with petitioner and controlled the limited
partnership
*406 Further, because respondents scrupulously separated their actions on behalf of the
corporation from their personal actions, petitioner never mistakenly assumed that respondents were
general partners with general liability. * * * Petitioner knew Union Properties was the sole
general partner and did not rely on respondents' control by assuming that they were also general
partners. If petitioner had not wished to rely on the solvency of Union Properties as the only general
partner, it could have insisted that respondents personally guarantee contractual performance.
Because petitioner entered into the contract knowing that Union Properties was the only party with
general liability, and because in the eyes of the law it was Union Properties, a separate entity, which
controlled the limited partnership, there is no reason for us to find that respondents incurred general
liability for their acts done as officers of the corporate general partner
The decision of the Court of Appeals is affirmed
WRIGHT, C.J., and ROSELLINI, STAFFORD, UTTER, HOROWITZ, BRACHTENBACH and
DOLLIVER, JJ., concur.
Ingalls v. Standard Gypsum
70 S.W.3d 252
Court of Appeals of Texas,
San Antonio.
Mitchell INGALLS, Appellant,
v.
STANDARD GYPSUM, L.L.C., Standard Gypsum Corporation, McQueeney Gypsum
Company
and Temple-Inland Forest Products Corporation, Appellees.
254
Dec. 26, 2001.
Rehearing Overruled Dec. 26, 2001.
Sitting: ALMA L. LÓPEZ, Justice, CATHERINE STONE, Justice, KAREN ANGELINI, Justice.
ON APPELLANT'S MOTION FOR REHEARING AS TO APPELLEE TEMPLE
FOREST AND APPELLEE'S
UNOPPOSED MOTION TO CLARIFY JUDGMENT
KAREN ANGELINI, Justice.
We deny the motion for rehearing filed by Mitchell Ingalls and grant the motion to clarify the
judgment filed by Standard Gypsum L.L.C. ("Standard Gypsum"), Standard Gypsum Corporation
("the corporation"), McQueeney Gypsum Company ("McQueeney"), and Temple-Inland Forest
Products Corporation ("Temple- Inland"). We withdraw our opinion and judgment issued on
November 21, 2001 and substitute the following in its place. This is an appeal from a summary
judgment entered in favor of Standard Gypsum L.L.C., Standard Gypsum Corporation, McQueeney,
and Temple-Inland. We affirm the judgment in part and reverse and remand in part.
BACKGROUND
Temple-Inland and McQueeney formed the limited liability company, Standard Gypsum, in
accordance with the Texas Limited Liability Company Act. Tex.Rev.Civ. Stat. Ann. art. 1528n
(Vernon Supp.2001). Thus, Temple-Inland and McQueeney are the two members of Standard
Gypsum, as defined by the Texas Limited Liability Company Act. Additionally, Temple-Inland and
Standard Gypsum entered into a written management agreement ("Agreement") in which TempleInland agreed to "manage and operate [Standard Gypsum's plant in McQueeney, Texas] in a manner
which is consistent with [Temple-Inland's] management and operation of its own gypsum wallboard
manufacturing facilities." Temple- Inland also agreed to procure and maintain, at Standard
Gypsum's expense, adequate workers' compensation insurance covering all plant employees.
On February 2, 1997, Mitchell Ingalls was injured in the course and scope of his employment
while working at Standard Gypsum's plant. Ingalls' arm caught in a machine at the plant, requiring
amputation of his arm. Ingalls filed suit against McQueeney and Temple-Inland, alleging that they
were negligent for failing to provide a guard around the machine and for failing to place the
emergency button closer to the machine.
McQueeney and Temple-Inland moved for summary judgment. They both argued that
because they are members of Standard Gypsum, they are also "employers" under the Texas Workers'
Compensation *255 Act and thus, immune from suit pursuant to the exclusive-remedy provision.
As an alternative theory, Temple- Inland argued that, along with Standard Gypsum, it is Ingalls' "coemployer," because it had the right to control him at the time of the accident in accordance with the
written Agreement. [FN1] The trial court granted summary judgment in favor of both TempleInland and McQueeney.
FN1. McQueeney did not urge the "co-employer" theory.
255
STANDARD OF REVIEW
We review a summary judgment de novo. * * * We will uphold a summary judgment only
if the record establishes that there is no genuine issue of material fact, and that the movant is entitled
to judgment as a matter of law on a ground set forth in the motion. * * * If a defendant moves for
summary judgment, it must disprove at least one of the elements of the plaintiff's cause of action, or,
alternatively, prove each element of an affirmative defense. * * * In determining whether there is
a disputed issue of material fact precluding summary judgment, evidence favorable to the nonmovant will be taken as true. * * * Every reasonable inference must be indulged in favor of the
non-movant and any doubts resolved in its favor. * * *
EXCLUSIVE-REMEDY PROVISION OF THE TEXAS WORKERS' COMPENSATION ACT
Under the Texas Workers' Compensation Act, "[r]ecovery of workers' compensation benefits
is the exclusive remedy of an employee covered by workers' compensation insurance coverage or a
legal beneficiary against the employer or an agent or employee of the employer for the death of or a
work- related injury sustained by the employee." Tex. Labor Code Ann. § 408.001(a) (Vernon
1996) (emphasis added). The Texas Workers' Compensation Act defines an employer as "a person
who makes a contract of hire, employs one or more employees, and has workers' compensation
insurance coverage." [* * *] Id. § 401.011(18) (Vernon Supp.2001). While an employee cannot
sue his employer, he can sue a "third party" for damages incurred as a result of "an injury or death
that is compensable under this subtitle." Id. § 417.001 (Vernon Supp.2001). Ingalls argues that
McQueeney and Temple-Inland are third parties under the Texas Workers' Compensation Act.
McQueeney and Temple-Inland argue that they should be considered employers.
A. Dual Employment
Temple-Inland argues that it is a "co-employer," along with Standard Gypsum, under the
Texas Workers' Compensation Act, because it had the right to control the details of Ingalls' work.
Under the "joint" or "co-" employment doctrine, a "person may be the servant of two employers at
one time as to one act if the service to one does not involve an abandonment of the service to the
other." Ely v. Gen. Motors Corp., 927 S.W.2d 774, 777 (Tex.App.-Texarkana 1996, writ denied)
(citing Restatement (Second) of Agency § 226 (1958)); * * * The Texas Supreme Court has
implicitly acknowledged the joint employment doctrine in the context of workers' compensation.
See Insurors Indem. & Ins. Co. v. Pridgen, 148 Tex. 219, 223 S.W.2d 217, 217-19 (1949)
(suggesting possibility of co-employer relationship). The First Court of Appeals has done likewise.
See Gen. Accident Fire & Life Assurance Corp. v. Callaway, 429 S.W.2d 548, 549-51 (Tex.App.Houston [1st Dist.] 1968, no writ) (upholding jury finding that plaintiff was injured in course and
scope of joint employment for two companies). And, the Fourteenth Court of Appeals has expressly
recognized the joint employment doctrine in the context of workers' compensation. Brown, 921
S.W.2d at 843-44.
Temple-Inland attached the written Agreement to its motion for summary judgment as proof
of its position that it had the right to control the details of Ingalls' work. The written agreement
states that Temple-Inland agrees to
256
[h]ire, train, promote, discharge, and supervise the work of all employees necessary for the
operation of the Business, and provide such employees with human resources support and
employee development services. Such employees may be on [Standard Gypsum's] payroll or
[Temple-Inland's] payroll, but [Temple- Inland] shall not be liable to [Standard Gypsum] or others
for any act or omission on the part of such employees unless the [Temple-Inland] has failed to use
reasonable diligence in their hiring, discharge, or supervision, except that the General Manager of
the Business shall be on [Temple-Inland's] payroll and, at [Temple-Inland's] expense, [TempleInland] shall pay for such General Manager's salary and benefits. [Temple-Inland] shall not at any
time enter into any agreement with any employee for a period in excess of one year or for
compensation in excess of $60,000 per year without [Standard Gypsum's] consent. [TempleInland] shall procure and maintain (at [Standard Gypsum's] expense) adequate workmen's
compensation insurance covering all of the employees.
Additionally, Temple-Inland agrees to
[a]rrange at [Standard Gypsum's] expense for compliance with all statutes, ordinances, laws, rules,
regulations, orders, and determinations affecting or issued in connection with the Business by any
governmental authority having jurisdiction thereof. [Temple-Inland] shall not, without [Standard
Gypsum's] consent, make any alterations or repairs so ordered or so required, if not included in the
Annual Plan, but if any such alterations or repairs are not made because of [Standard Gypsum's]
failure to give its written consent after request therefor, then [Standard Gypsum] shall hold
[Temple-Inland] harmless from any liability that may arise by reason of the failure to make such
alterations or repairs. Notwithstanding the foregoing, in case of an emergency or if failure
promptly to comply with an order or to cure any violation shall expose [Standard Gypsum] or
[Temple-Inland] to the imminent danger of criminal liability, then in such event [Temple-Inland]
shall cause such order or violation to be complied *257 with or cured without awaiting [Standard
Gypsum's] consent. Unless otherwise directed by [Standard Gypsum], [Temple-Inland] shall, at
[Standard Gypsum's] expense, protest or litigate to final decision in any appropriate court or forum
any violation, order, rule, or regulation affecting the Business.
* * * In his affidavit, Ingalls states that his checks were paid from Standard Gypsum's bank
account, that his immediate supervisor was Trombley, and that Trombley was the only person who
instructed him on how to perform his duties. Trombley states in his affidavit that he was an
employee of Standard Gypsum and that he was Ingalls' supervisor.
In response to the affidavits produced by Ingalls, Temple-Inland filed an additional affidavit
by Dix Brown, the production manager for Standard Gypsum at the time of the incident. Brown
declares in his affidavit that Trombley did not have access to the terms of the written Agreement, nor
to the internal workings of payroll information. Further, he states that Joe Brown, who was paid by
Temple-Inland, was the General Manager of the plant at the time of Ingalls' accident.
The admissible summary judgment evidence submitted by the parties is consistent. For
example, everyone agrees that Ingalls' supervisor was Trombley, a Standard Gypsum employee.
The fact that Trombley was Ingalls' supervisor does not create a fact issue regarding Temple-Inland's
right to control Ingalls pursuant to the written Agreement. Generally, the right of control and
257
direction is a question of contract between the general employer and special employer. * * * The
written Agreement clearly gave Temple-Inland the authority to control Standard Gypsum's
employees. Ingalls argues that because the written Agreement specifies that Temple-Inland "shall
not be liable to [Standard Gypsum] or others for any act or omission on the part of such employees
unless [Temple-Inland] has failed to use reasonable diligence in their hiring, discharge, or
supervision," Temple-Inland cannot be considered his employer. Based on this language, Ingalls
argues that Temple- Inland is not liable under respondeat superior to third parties for Ingalls' acts and
as such, cannot be considered his employer. A third party, however, could indeed maintain a cause
of action against Temple-Inland under the theory of respondeat superior for Ingalls' acts. A contract
between Temple-Inland and Standard Gypsum would not absolve Temple-Inland of liability to a
third party, as the third party would not be bound by the contract. Thus, we interpret the provision
to be an indemnification clause between Temple-Inland and Standard Gypsum, not a provision that
would absolve Temple-Inland of tort liability to third parties.
The summary judgment evidence shows that at the time of the incident, Ingalls was serving
two masters, Temple-Inland and Standard Gypsum, and that his service to one "did not involve
abandonment of the service to the other." Restatement (Second) of Agency § 226 (1958). The nonhearsay portions of the affidavits submitted by Ingalls do not create a fact issue regarding the
relationship between Standard Gypsum, Temple-Inland, and plant employees. As Temple-Inland
and Standard Gypsum were Ingalls' co-employers, the trial court did not err in granting summary
judgment in favor of Temple-Inland.
B. Members of Limited Liability Companies
McQueeney and Temple-Inland [FN3] argue that, as members of a limited liability
company, they should be considered "employers" of Standard Gypsum's employees for purposes of
workers' compensation. This is an issue of first impression. However, there are three cases which
provide guidance: Lawler v. Dallas-Statler-Hilton Joint Venture, 793 S.W.2d 27 (Tex.App.-Dallas
1990, writ denied), Sims v. Western Waste Indus., 918 S.W.2d 682 (Tex.App.- Beaumont 1996, writ
denied), and Alice Leasing Corp. v. Castillo, 53 S.W.3d 433 (Tex.App.-San Antonio 2001, pet.
denied).
FN3. Temple-Inland advances this argument as an alternate ground for affirmance.
However, as we have affirmed the judgment as to Temple-Inland on the co-employer issue,
our resolution of this issue only affects the summary judgment as to McQueeney.
1. Lawler and Alice Leasing: Joint Ventures and Partnerships
McQueeney and Temple-Inland rely substantially on Lawler. In Lawler, the plaintiff, a
maid supervisor, was injured while working at the Dallas Hilton Hotel, for which she collected
workers' compensation benefits. 793 S.W.2d at 28. The Dallas Hilton Hotel was owned by Dallas
Statler Hilton Joint Venture. Id. The joint venture, in turn, was owned by Hilton Hotel Corp. and
Prudential Insurance Co. Id. Under a lease and management agreement, the Hilton Hotel Corp.
managed the hotel on behalf of the joint venture. Id. The plaintiff sued Hilton Hotel Corp.,
Prudential Insurance Co., and the joint venture for negligence. Id. All three claimed that they were
immune from liability under the Texas Workers' Compensation Act as the plaintiff's "employers."
258
The Fifth Court of Appeals likened a joint venture to a partnership and noted that where a
partnership is an employer, the individual partner is also an employer and not an employee as
contemplated by the Texas Workers' Compensation Act. Id. at 31. The court also noted that some
states had applied the aggregate theory to partnerships, reasoning that the partnership is an
association of persons who are viewed as co-owners. Id. at 34. Other states have adopted an entity
theory, concluding that a partnership is an entity in itself rather than an aggregate of its members. Id.
The distinction between the two theories is that under the aggregate theory, a plaintiff is barred from
bringing an action against a partner where the partnership is the employer. Id. at 33. In contrast,
under the entity theory, "the employee of a partnership is not an employee of an individual partner
and can recover against such partner, as a third party, for negligent injury incident to employment."
Id. (citation omitted). While the court observed that Texas appears to be predominantly an entity
theory state, "there are still aggregate features" to the Uniform Partnership Act. See id. at 34 (noting
that for example, the partnership act provides for joint and several liability). Thus, the court
concluded,
the better rule in cases involving claims by employees against employers is the majority rule that
the individual partners or joint venturers are also employers of the partnership's or joint venturer's
employees. Although in most other areas Texas is predominantly an entity theory state, it is not
inconsistent with the [Uniform Partnership Act] or case law to apply the aggregate theory to the
employment relationship.
Id. Furthermore, the court emphasized that its holding was consistent with the theory and practice of
workers' compensation law. Id.
With the enactment of the Workers' Compensation Act, the Texas legislature made workers'
compensation the exclusive remedy which an employee has against his subscribing employer
unless other remedies are expressly provided for.... In consideration of the same legislative intent,
we conclude that a partner or joint venturer is also an employer of the partnership's or joint
venture's employees.... We refuse to thwart the clear legislative intent of the workers'
compensation exclusive remedy provision by arbitrarily favoring the entity theory of partnership in
this instance. For the above reasons, we hold that an individual partner or an individual member
of a joint venture is an employer of the partnership's or joint venture's employees for purposes of
the Texas workers' compensation law.
Id. (citations omitted).
Recently, however, we noted in Alice Leasing Corp. v. Castillo, that Lawler had been
overruled by statute. 53 S.W.3d 433, 443 (Tex.App.-San Antonio 2001, pet. denied). We
emphasized that since Lawler issued, the Legislature unequivocally embraced the entity theory of
partnership law in 1993. Id. The Texas Revised Partnership Act defines a partnership as "an entity
distinct from its partners." Id. Thus, we concluded that Lawler had been overruled by statute and
"cannot support Alice Leasing's position that the aggregate theory should be applied here." Id.
Therefore, even if we were to conclude that a limited liability company is comparable to a
partnership or joint venture, Temple-Inland and McQueeney cannot rely on Lawler.
2. Sims: Parent Corporations and Their Subsidiaries
259
In Sims v. Western Waste Industries, the plaintiff was an employee of Western Waste
Industries of Texas ("WWIT"), working as a "bumper" on a garbage truck, when he injured his leg.
918 S.W.2d 682, 683 (Tex.App.- Beaumont 1996, writ denied). He sued Western Waste Indus., Inc.
("WWI"), the parent corporation of his employer. Id. WWI was allegedly involved in the design,
manufacture, and marketing of the truck involved in the plaintiff's accident. Id. WWI argued that it
was the "alter ego" of WWIT, the "real" employer of the plaintiff, and was entitled to assert
immunity under the Texas Workers' Compensation Act. Id. The Ninth Court of Appeals did not
agree. It noted that parent and subsidiary corporations are separate and distinct legal entities. Id. at
684. If they were considered to be the same entity, "would an employee be an employee of all
subsidiaries and parents and would everyone under the corporate 'umbrella' be immune from suit as a
third party under [w]orkers' [c]ompensation?" Id. at 686. Nothing in the Texas Workers'
Compensation Act indicates that this was the intent of the legislature. Id.
Partners in a partnership and members of a joint venture are held responsible by law for the acts
and omissions of the partnership or joint venture. The benefit of immunity being "all for one and
one for all" is accompanied by the obligation of liability being the same. However, parent and
subsidiary corporations, absent exceptional circumstances and when it is in the interest of equity to
do so, are not held accountable for the acts of the other; this is a primary motivation for
incorporation. We are not persuaded that the legislature ever intended parent corporations, who
deliberately chose to establish a subsidiary corporation, to be allowed to assert immunity under the
Texas Workers' Compensation Act by reverse piercing of the corporate veil they themselves
established. WWI has accepted the benefits of establishing a subsidiary corporation in Texas and
will not be allowed to disregard that entity now that it is their gain to do so. We hold that Texas
law does not permit a parent corporation to assert the alter ego theory of piercing the corporate veil
of their subsidiary and thereby assert [w]orkers' [c]ompensation immunity as a defense to suit by
the subsidiary's employee.
Id. Ingalls relies heavily on Sims, arguing that the limited liability shield provided to members of an
LLC is the key consideration for treating members of an LLC the same as parents of a corporation
with regard to the exclusive-remedy provision. We agree.
Like the Texas Business Corporation Act, the Texas Limited Liability Company Act shields
its members from liability. Article 4.03 of the Texas Limited Liability Company Act provides that
"[e]xcept as and to the extent the regulations specifically provide otherwise, a member or manager is
not liable for the debts, obligations or liabilities of a limited liability company including under a
judgment decree, or order of a court." Tex.Rev.Civ. Stat. Ann. art. 1528n, § 4.03 (Vernon
Supp.2001). Moreover, "[a] member of a limited liability company is not a proper party to
proceedings by or against a limited liability company, except where the object is to enforce a
member's right against or liability to the limited liability company." Id. § 4.03(C).
In Sims, the court of appeals emphasized that the parent corporation could not argue that it
was not liable for the actions of its subsidiary and then argue that it was the same entity for purposes
of workers' compensation. 918 S.W.2d at 686. McQueeney and Temple-Inland are likewise
arguing that while they benefit from limited liability under the Texas Limited Liability Company
Act, they should be *261 considered "employers" for purposes of workers' compensation. The key
260
distinction in this case, however, is that the parent corporation in Sims was being sued for products
liability, i.e. an independent tort. The parent corporation was not being sued solely because it was
the owner of the subsidiary. Implicit in the Sims opinion is the requirement that the parent of the
corporation commit some independent tort separate and apart from the employment relationship.
Even Ingalls has conceded that a passive shareholder of a corporation should not be considered a
"third party" under the Texas Workers' Compensation Act solely on the basis of being an "owner" of
the corporation. As the trial court granted summary judgment solely on the basis of McQueeney
being a member of an LLC without considering whether it had allegedly committed an independent
tort, we reverse the trial court's judgment with respect to McQueeney and remand for further
proceedings consistent with this opinion.
*
*
*
CONCLUSION
In conclusion, we affirm the judgment of the trial court with respect to Temple-Inland,
Standard Gypsum, L.L.C., and Standard Gypsum Corporation. With respect to McQueeney, we
reverse and remand to the trial court for further proceedings consistent with this opinion.
Olympus America v. 5th Avenue Photo
756 N.Y.S.2d 702
Civil Court, City of New York,
New York County.
OLYMPUS AMERICA, INC., Plaintiff,
v.
5TH AVENUE PHOTO INC. et al., Defendants.
Sept. 6, 2002.
LUCY BILLINGS, J.
Defendant Bouskila moves to dismiss the complaint against him. He maintains that plaintiff
has no claim against him individually for a corporate obligation based on a contract between plaintiff
and the corporate defendant. C.P.L.R. § 3211(a)(7).
Plaintiff concedes that defendant Bouskila never personally guaranteed payment under
plaintiff's alleged contract with defendant 5th Avenue Photo Inc. When Bouskila entered the
contract acting on the corporation's behalf, however, 5th Avenue Photo Inc. had been dissolved as of
261
June 26, 1996, pursuant to the New York State Secretary of State's proclamation, for failure to pay
state franchise taxes for 1992-96. N.Y. Tax Law § 203-a. By February 1997, defendant had paid
the delinquent taxes, but did not obtain an annulment of the dissolution to reactivate the corporation's
official status until April 2, 2002. The transactions with plaintiff that are the subject of this action
occurred during 1999-2000.
Had defendants neither paid the delinquent taxes nor filed the certificate of payment to annul
the dissolution, Bouskila, the corporation's chairman and president, would be liable for contractual
obligations entered during the period of the dissolution, even if the corporation later was reinstated. *
* * To permit an officer of a dissolved corporation who has been conducting business in a nonexistent corporate name then, after the fraud is uncovered, to shift personal liability to the
corporation by paying the tax arrears would do nothing to discourage the fraud and abuse. * * * To
encourage this practice would subvert any incentive, until the fraud is discovered, to pay the tax
arrears in order to conduct business in the corporate name legitimately.
To escape personal liability, defendant Bouskila relies on authority that validates transactions
during a corporation's dissolution once the corporation is reinstated. * * * This authority permits a
corporation to assert its rights or claims, rather than to substitute its liability for an individual's.
Permitting a dissolved corporation to establish a property interest or recover payment of a debt owed
does not encourage the avoidance of liability. Recovery on corporate claims usually will shore up
the corporation's financial condition. Where an officer of a dissolved corporation is attempting to
substitute the corporation's liability for a debt for his liability when the corporation's financial
viability may be uncertain, however, the avoidance of liability is a significant consideration that the
law discourages.
The question here is whether payment of the tax arrears before conducting business and
incurring the alleged obligation to plaintiff changes the allocation of liability: whether a corporation
that was dissolved for nonpayment of taxes and then cured the delinquency, but not the dissolution,
has the capacity to enter a contract. * * * Bouskila contends that by paying the taxes, the
corporation was reactivated to de facto corporate status, enabling it to conduct business and enter
contracts, and thus relieving him of any personal liability for acting on the corporation's behalf.
Recognizing a corporation's de facto status while still in tax arrears is a disincentive to
payment of the taxes. Such recognition after payment of the taxes, however, ignores only the
paperwork requirements for reinstatement. * * *
In both situations, where the taxes have not been paid and where they have been paid, the
creditor believes it is dealing with a corporation and is relying on its ability to pay. Where the taxes
have not been paid, the ability to pay creditors likely is weak and the creditor's reliance misplaced.
Where the taxes have been paid, financial trouble and the potential for fraudulent avoidance of
financial obligations are less likely. * * *
For all these reasons, a delinquent corporation may not enjoy de facto status, but a nondelinquent corporation that simply has failed to file a certificate for reinstatement does enjoy de facto
status. * * * Payment of the back taxes reinstates the corporation to a functional, de facto status. *
**
262
Since defendant Bouskila contracted with plaintiff in the dissolved corporation's name after it
cured its tax delinquency, the corporation had the functional capacity to enter the contract as a de
facto corporation. Bouskila, according to his uncontradicted affidavit, believed in good faith that the
corporation had taken the necessary steps for reinstatement. * * * Therefore Bouskila is not subject
to individual liability on the contract. * * * This defense requires dismissal of the complaint
against him. C.P.L.R. § 3211(a)(7).
Kingfield Wood v. Hagan
827 A.2d 619
Supreme Court of Rhode Island.
KINGFIELD WOOD PRODUCTS, INC.
v.
Thomas HAGAN et al.
July 1, 2003.
Present: WILLIAMS, C.J., FLANDERS, and GOLDBERG, JJ.
OPINION
PER CURIAM.
This case came before the Supreme Court on May 6, 2003, pursuant to an order directing all
parties to appear and show cause why the issues raised by this appeal should not be summarily
decided. After hearing the arguments of counsel and considering the memoranda of the parties, we
conclude that cause has not been shown. Accordingly, we shall decide the appeal at this time.
The plaintiff, Kingfield Wood Products, Inc. (Kingfield or plaintiff), is seeking payment of
$79,180.92, plus interest and costs, against the defendants, Thomas Hagan (Hagan) and John
Teeden, a/k/a Jack Teeden (Teeden and collectively defendants), in their individual capacity, on a
book account for goods sold and delivered to Dorette Co., also known and referred to as Dorette, Inc.
(Dorette). A justice of the Superior Court entered summary judgment against both defendants for
the full amount of the book account. They now appeal.
Dorette was in the business of producing customized taphandles for dispensing draft beer,
and Kingfield, a Maine corporation, was the source of its wood supply. The evidence disclosed that
the current indebtedness was incurred by Dorette between September 2000 and April 2001. After its
demands for payment were unsatisfied, Kingfield filed suit in Superior Court. Based upon its
263
discovery that Dorette's corporate charter and been revoked by the Rhode Island Secretary of State,
Kingfield looked to Hagan and Teeden personally for satisfaction of Dorette's outstanding
indebtedness. The record disclosed that Dorette's corporate charter had been revoked in 1989 and
had not been reinstated. [* * *] Accordingly, Kingfield looked to impose liability on the individual
defendants for the debt of a nonexistent corporate entity.
By his own admission, Hagan was Dorette's president, secretary, and treasurer and its sole
shareholder. Teeden's position within Dorette's business structure is a hotly contested issue. Both
Hagan and Teeden contend that since his initial start with the company in 1986, Teeden worked as a
salaried employee with no managerial responsibilities or ownership interest in Dorette. Teeden
contends that as a mere employee, he bears no personal liability for the debt incurred by his
corporate employer. [FN2] However, the evidence also disclosed that Teeden held himself out as
vice president of Dorette, both in his dealings with Kingfield and on his business cards.
FN2. Teeden worked for "Dorette, Inc." before Hagan acquired the business; according to
defendants, Teeden remained a salesman before and after Dorette changed hands.
In his defense to personal liability, Hagan contended that Dorette was a fictitious trade name
of his Massachusetts corporation, Ben Braddock Co., Inc. (Braddock), which purchased Dorette in
1986. According to Hagan, he should be protected from personal liability for Dorette's debts
because at all relevant times Braddock was a corporation in good standing in the Commonwealth of
Massachusetts. However, Braddock's certificate to do business in Rhode Island was revoked in
1989, reinstated later that year, and again revoked in 1997. When Kingfield contracted with
defendants in 2000 and 2001, Braddock was not authorized to do business in this state, although its
certificate was reinstated on March 21, 2001. Furthermore, Braddock has never registered Dorette as
a fictitious trade name. [FN3] The record supports Kingfield's claim that at no time was it aware of
Braddock or its alleged affiliation with Dorette. All purchase orders and billing statements between
the parties referred solely to Dorette, and Braddock played no role in the parties' business dealings.
FN3. The only discernable connection between Braddock and Dorette are Braddock's use of
Dorette's Pawtucket, Rhode Island, address as its corporate headquarters in its annual
corporation report filed with the Commonwealth of Massachusetts, and weekly paychecks to
Teeden marked as issued by "Ben Braddock d/b/a Dorette Co."
Upon commencement of suit, defendants filed a motion to dismiss, or in the alternative, a
motion for summary judgment based upon their contention that they were not the proper parties.
The hearing justice concluded that the revocation of Dorette's corporate charter exposed defendants
to personal liability and that Hagan and Teeden were properly named as defendants. The hearing
justice denied the defendants' motions for summary judgment.
Thereafter, Kingfield's motion for summary judgment was granted and Teeden's crossmotion for summary judgment was denied; the defendants were declared personally liable for
Dorette's indebtedness and ordered to pay plaintiff $79,180.92, plus interest and costs. The hearing
justice reasoned that since no corporate entity existed at the time the debt was incurred and because
the evidence failed to connect Braddock to Dorette in any meaningful way, defendants were acting
individually in their business dealings with Kingfield.
264
The trial justice also rejected Teeden's contention that he was a mere employee of Dorette.
Rather, the trial justice determined that Teeden, as "vice president" of Dorette, was a party to the
business transactions. Moreover, plaintiff produced a document setting forth a payment schedule
from Dorette to Kingfield that was signed by both Hagan and Teeden. [* * *] The defendants filed
separate notices of appeal.
Before this Court, Hagan again argues that Dorette was a fictitious trade name of Braddock, a
Massachusetts corporation in good standing, and that he therefore cannot be held personally liable
for its unpaid corporate debts. He urges this Court to recognize that the mere failure to register a
trade name does not invalidate reliance on the corporate form, nor does it impose individual liability
on an officer of the corporation. Hagan alleges that Dorette was not registered as Braddock's trade
name because of an error by his former counsel, and that he was under the erroneous belief that its
name had been registered. Although conceding that Kingfield was unaware that Dorette was a
fictitious trade name for Braddock, Hagan argues that as the sole shareholder, director and officer, he
should not have been made personally liable for corporate debt simply because the correct name of
the corporation, Braddock, had not been disclosed to its creditors. Finally, Hagan reiterates that at
no time was Teeden anything other than a disinterested employee.
Teeden argues that summary judgment was granted inappropriately because there remain
legitimate issues of material fact with respect to his status, namely, whether he was an employee or
principal of Dorette or Braddock, and whether he may be subject to personal liability for his
activities as an employee. He assigns error to the hearing justice's reliance on evidence that his name
was attached to a schedule for debt repayment to Kingfield.
Standard of Review
We review the grant of summary judgment on a de novo basis and are therefore bound by the
same rules and standards as those employed by the trial justice. * * * "To oppose a motion for
summary judgment successfully, a party need only provide the trial justice with evidence that, when
viewed in the light most favorable to that party, establishes the existence of a genuine issue of a
material fact." Ferro v. Volkswagen of America, Inc., 588 A.2d 1047, 1049 (R.I.1991) (citing
Super.R.Civ.P. 56 and Peoples Trust Co. v. Searles, 486 A.2d 619, 620 (R.I.1985)).
Background
This Court previously has recognized that individuals who enter into contracts on behalf of
non-existent corporate entities are personally liable for the debt that is incurred. In DBA/Delaware
Systems Corp. v. Greenfield, 636 A.2d 1318 (R.I.1994) (per curiam), summary judgment for the
plaintiff on a promissory note that was executed by the defendants on behalf of a nonexistent
corporation was upheld by this Court. Based on the undisputed fact that no such corporation existed
at the time of the execution of the promissory note, and based on our determination that G.L.1956 §
7-1.1-136 [FN5] precluded the defense of a de facto corporation, the defendants were held
personally liable for the indebtedness they incurred. Greenfield, 636 A.2d at 1319. This rationale
also has been applied to cases in which the charter of a one-time legitimate corporation has been
revoked. Unlike the orderly dissolution of a corporation in which the principals are shielded from
265
personal liability for actions taken during the winding up period, * * * when a corporation's charter
has been revoked, the principals of that corporation are exposed to liability and enter into contracts at
their peril. See Pepin v. Donovan, 581 A.2d 717, 717 (R.I.1990) (per curiam) (principal officer of a
corporation who continued to do business under the corporate name after the corporation's charter
was revoked was personally liable for automobile excise taxes owed to the city of Warwick). In
Harris v. Turchetta, 622 A.2d 487 (R.I.1993), creditors were awarded judgment for back rent against
the individual principals who continued to conduct corporate business after the charter had been
revoked. This Court rejected the defendants' argument that the business was a de facto corporation
and that the corporate shield should insulate them from liability. Id. at 489.
FN5. General Laws 1956 § 7-1.1-136 provides as follows: "Unauthorized assumption of
corporate powers.--All persons who assume to act as a corporation without authority so to
do are jointly and severally liable for all debts and liabilities incurred or arising as a result of
that action."
Further, officers and directors who operate a corporation during the interval between
reinstatement and revocation of a corporate charter are not relieved from individual liability for any
debts that are incurred; efforts at reinstatement have no bearing on liability for indebtedness
occurring during the period of revocation. Harris, 622 A.2d at 489. In this instance, a broad
spectrum of creditors is protected, including private creditors and municipalities seeking payment for
delinquent taxes. In Pepin, 581 A.2d at 718, we held that to discourage fraud and abuse, the
retroactive reinstatement of a corporate charter does not provide relief from personal liability to
individuals for acts occurring during the period of revocation.
Clearly, the revocation of a corporate charter has potentially grave implications for those who
continue to operate the business. Financial obligations that are incurred during this period are not to
be entered into lightly, for the law will protect the party victimized by these activities and will
impose individual liability on those responsible for the debts.
Fictitious Trade Name
As noted, Hagan contends that he is not personally liable for Dorette's corporate debt because
Dorette was operating as a fictitious trade name at the time Kingfield contracted with it. Hagan also
owned Braddock, a Massachusetts corporation that was in good standing at the time of the sale. The
plaintiff responds that it would be inequitable to permit Braddock to serve as a corporate shield
against the personal liability of the defendants because Braddock also is insolvent and Kingfield was
unaware of its existence until defendants responded to this litigation. Further, Kingfield argues that
defendants were unable to produce any documentation relative to Braddock's relationship with
Dorette.
Kingfield also contends that even if Dorette were found to be a fictitious trade name for
Braddock, notwithstanding its failure to register the trade name, Braddock had lost its right to
conduct business in Rhode Island. Consequently, Kingfield argues, neither Braddock nor Dorette
were corporations in the eyes of the state at the time the goods were sold, and defendants therefore
acted in their individual capacities and are personally liable for the debts.
266
We are of the opinion that no factual issues exist with respect to Hagan's admitted status as
principal, officer and sole shareholder of Dorette. It is evident that Dorette's corporate charter had
been revoked during the time in which Kingfield contracted with Dorette. Therefore, the finding that
Hagan was held personally liable to Kingfield for the debts that he incurred was proper.
Nor are we persuaded that Braddock has any relevance to this case. Hagan has failed to
demonstrate that Dorette was in any cognizable way affiliated with, or owned by Braddock or that
Dorette served as Braddock's fictitious trade name. The party opposing summary judgment has the
burden of producing "competent evidence [of] the existence of a disputed material issue of fact * * *
and cannot rely upon mere allegations or denials in the pleadings, mere conclusions, or mere legal
opinions." Star-Shadow Productions, Inc. v. Super 8 Sync Sound System, 730 A.2d 1081, 1083
(R.I.1999) (per curiam) (quoting Hale v. Marshall Contractors, Inc., 667 A.2d 1252, 1254
(R.I.1995)). In the case before the Court, no evidence has been brought forth to demonstrate that
Dorette was in any way a fictitious trade name for Braddock. Significantly, at no time during the
dealings between the parties was Kingfield alerted to this alleged corporate identity. We are
satisfied that even if defendants genuinely intended Dorette to operate as a fictitious trade name, the
failure to comply with the provisions of § 7-1.1- 7.1 [FN6] and record the fictitious business name
is fatal to Hagan's argument. Additionally, we conclude that Hagan has presented insufficient
evidence of the existence of the Dorette-Braddock corporate relationship to warrant an inquiry into
whether any common-law trade name exists. See National Lumber & Building Materials Co. v.
Langevin, 798 A.2d 429, 433n.3 (R.I.2002) (per curiam) (corporation that had registered a trade
name and used it continuously can maintain an infringement action at common law).
FN6. Section 7-1.1-7.1(a) provides:
"Fictitious business name.--(a) Any corporation organized and existing under the laws of
any state or territory of the United States may transact business in this state under a fictitious
name, provided that it files a fictitious business name statement in accordance with this
section prior to the time it commences to transact the business under the fictitious name."
Furthermore, the evidence disclosed that Braddock was not legally entitled to transact
business in Rhode Island because its certificate had been revoked. Thus, it follows that an alter-ego
entity acting in Braddock's stead also was barred from operating in Rhode Island. To hold otherwise
would result in the absurd circumstance of unauthorized foreign corporations continuing business
within the state under fictitious trade names. This result would nullify the intended purpose of
regulating corporate business to protect creditors and consumers alike. Braddock appears to have
been raised as a last ditch effort to avoid individual liability; its affiliation with Dorette became
relevant only after Kingfield moved for summary judgment. The reality is that Kingfield delivered
goods while neither Braddock nor Dorette were authorized to do business in the state and, hence,
Kingfield is legally entitled to look to Hagan for satisfaction of the outstanding invoices. Hagan's
appeal is denied and dismissed.
Teeden's Employment Status
In contrast with Hagan, who did not contest the assertion that he was both a principal and
officer of Dorette and Braddock, Teeden flatly denies that he had any role other than that of salaried
employee for "Braddock d/b/a Dorette Co." To support its argument that Teeden was part owner and
267
officer for Dorette, plaintiff argues that it relied on the representations made at the time of the sale
that Teeden was as an officer for Dorette and that Dorette was a viable corporation. Additionally,
Kingfield refers to an article in the Providence Journal that referred to Teeden as "vice president and
chief executive officer" and "co-owner." [FN7]
FN7. Although this evidence further clouds the question of Teeden's position within Dorette,
it is neither persuasive nor dispositive of the issue; the nature of the "evidence" and the
inability to verify the source of the statement contained in the newspaper significantly
weaken its probative value.
The question of individual liability for the business dealings of a revoked corporation
depends on the status of the employee. His or her title in the organization and position within the
corporate structure are relevant considerations. Similarly, the level of decision-making and control
of the business also are important. In Harris, 622 A.2d at 490, the wife of the owner of a
corporation that ceased to exist was held to be personally liable for corporate debt based upon her
participation in managing the enterprise. The wife held the office of vice president and treasurer and
testified that she worked on the restaurant's books. Consequently, she was found to be a principal of
the business. In light of Harris, the test for individual liability is the level of responsibility with
respect to the affairs of the business and whether this service was of sufficient significance to
characterize that person as a principal of the corporation. This determination is fact-driven, although
no one factor is dispositive. It requires an evaluation of the title held by the person and his or her
behavior with respect to the affairs of the business.
Our careful review of the record on appeal has convinced us that Teeden has demonstrated
that a genuine issue of material fact exists about his relationship with Dorette and the role he
assumed throughout Kingfield's business dealings with Dorette. Resolution of this question is
necessary for the fact-finder. Although the evidence established that Teeden held himself out as vice
president of Dorette, the level of responsibility and authority he assumed within the company has not
been proven. We cannot assume on the face of the record that Teeden's conduct rendered him a
principal of the corporation; to support an inference that he was a principal his activities must be
substantial and of a sufficient duration. "The duty of a Superior Court justice in passing upon a
motion for summary judgment is issue finding rather than issue resolution." General Motors
Acceptance Corp. v. Johnson, 746 A.2d 122, 124 (R.I.2000) (per curiam). Based on the record
before us, we conclude that the hearing justice erred in holding that Teeden was a principal of the
corporation such that he was personally responsible for its debt. Accordingly, Teeden's appeal is
sustained.
Based on the foregoing, the judgment of the Superior Court is affirmed in part and vacated in
part. The appeal of the defendant Hagan is denied and dismissed and the judgment against him is
affirmed. The defendant Teeden's appeal is sustained and the judgment against him is vacated. This
case is remanded to the Superior Court for further proceedings in accordance with this opinion.
Justice FLAHERTY did not participate.
268
Sea-Land Services, Inc. v. Pepper Source
941 F.2d 519 (7th Cir.1991)
SEA-LAND SERVICES, INC., Plaintiff-Appellee,
v.
The PEPPER SOURCE, Caribe Crown, Inc., Gerald Marchese doing business as Jamar
Corporation, et al., Defendants-Appellants.
No. 90-2589.
United States Court of Appeals,
Seventh Circuit.
Argued April 17, 1991.
Decided Aug. 20, 1991.
BAUER, Chief Judge.
This spicy case finds its origin in several shipments of Jamaican sweet peppers. Appellee
Sea-Land Services, Inc. ("Sea-Land"), an ocean carrier, shipped the peppers on behalf of The Pepper
Source ("PS"), one of the appellants here. PS then stiffed Sea-Land on the freight bill, which was
rather substantial. Sea-Land filed a federal diversity action for the money *520 it was owed. On
December 2, 1987, the district court entered a default judgment in favor of Sea-Land and against PS
in the amount of $86,767.70. But PS was nowhere to be found; it had been "dissolved" in mid1987 for failure to pay the annual state franchise tax. Worse yet for Sea- Land, even had it not been
dissolved, PS apparently had no assets. With the well empty, Sea-Land could not recover its
judgment against PS. Hence the instant lawsuit.
In June 1988, Sea-Land brought this action against Gerald J. Marchese and five business
entities he owns: PS, Caribe Crown, Inc., Jamar Corp., Salescaster Distributors, Inc., and Marchese
Fegan Associates. [FN1] Marchese also was named individually. Sea-Land sought by this suit to
pierce PS's corporate veil and render Marchese personally liable for the judgment owed to Sea-Land,
and then "reverse pierce" Marchese's other corporations so that they, too, would be on the hook for
the $87,000. Thus, Sea-Land alleged in its complaint that all of these corporations "are alter egos of
each other and hide behind the veils of alleged separate corporate existence for the purpose of
defrauding plaintiff and other creditors." Count I, & 11. Not only are the corporations alter egos of
each other, alleged Sea-Land, but also they are alter egos of Marchese, who should be held
individually liable for the judgment because he created and manipulated these corporations and their
assets for his own personal uses. Count III, && 9-10. (Hot on the heels of the filing of Sea-Land's
complaint, PS took the necessary steps to be reinstated as a corporation in Illinois.)
FN1. This last defendant is a partnership. Because Sea-Land served only one partner-Marchese--the district court did not consider or enter judgment on Sea-Land's claims against
this entity. See Sea-Land Services, Inc. v. The Pepper Source, No. 88 C 4861, slip op. at 2 n.
2, 1990 WL 91497, 1990 U.S. Dist. LEXIS 7676 (N.D.Ill. June 22, 1990) ("Dist.Ct.Op.").
269
Thus, for all practical purposes, the entity of Marchese Fegan Associates is out of this case,
and henceforth our references to "the defendants" do not include this entity.
In early 1989, Sea-Land filed an amended complaint adding Tie-Net International, Inc., as a
defendant. Unlike the other corporate defendants, Tie-Net is not owned solely by Marchese: he
holds half of the stock, and an individual named George Andre owns the other half. Sea-Land
alleged that, despite this shared ownership, Tie-Net is but another alter ego of Marchese and the
other corporate defendants, and thus it also should be held liable for the judgment against PS.
Through 1989, Sea-Land pursued discovery in this case, including taking a two- day
deposition from Marchese. In December 1989, Sea-Land moved for summary judgment. In that
motion--which, with the brief in support and the appendices, was about three inches thick--Sea-Land
argued that it was "entitled to judgment as a matter of law, since the evidence including deposition
testimony and exhibits in the appendix will show that piercing the corporate veil and finding the
status of an alter ego is merited in this case." Marchese and the other defendants filed brief
responses.
In an order dated June 22, 1990, the court granted Sea-Land's motion. The court discussed
and applied the test for corporate veil-piercing explicated in Van Dorn Co. v. Future Chemical and
Oil Corp., 753 F.2d 565 (7th Cir.1985). Analyzing Illinois law, we held in Van Dorn that
a corporate entity will be disregarded and the veil of limited liability pierced
when two requirements are met: [F]irst, there must be such unity of interest and
ownership that the separate personalities of the corporation and the individual [or
other corporation] no longer exist; and second, circumstances must be such that
adherence to the fiction of separate corporate existence would sanction a fraud or
promote injustice.
753 F.2d at 569-70 (quoting Macaluso v. Jenkins, 95 Ill.App.3d 461, 50 Ill.Dec. 934, 938, 420
N.E.2d 251, 255 (1981)) (other citations omitted). See also Main Bank of Chicago v. Baker, 86
Ill.2d 188, 205, 56 Ill.Dec. 14, 21, 427 N.E.2d 94, 101 (1981) (Illinois Supreme Court stating the test
in *521 essentially the same terms); Pederson v. Paragon Pool Enterprises, 214 Ill.App.3d 815, 158
Ill.Dec. 371, 373, 574 N.E.2d 165, 167 (1st Dist.1991) (recent veil-piercing case applying essentially
the same test). As for determining whether a corporation is so controlled by another to justify
disregarding their separate identities, the Illinois cases, as we summarized them in Van Dorn, focus
on four factors: "(1) the failure to maintain adequate corporate records or to comply with corporate
formalities, (2) the commingling of funds or assets, (3) undercapitalization, and (4) one corporation
treating the assets of another corporation as its own." 753 F.2d at 570 (citations omitted). See also
Main Bank, 427 N.E.2d at 102; Pederson, 214 Ill.App.3d at 820, 158 Ill.Dec. at 374, 574 N.E.2d at
168.
Following the lead of the parties, the district court in the instant case laid the template of Van
Dorn over the facts of this case. Dist.Ct.Op. at 3- 12. The court concluded that both halves and all
features of the test had been satisfied, and, therefore, entered judgment in favor of Sea-Land and
against PS, Caribe Crown, Jamar, Salescaster, Tie-Net, and Marchese individually. These defendants
were held jointly liable for Sea-Land's $87,000 judgment, as well as for post-judgment interest under
Illinois law. From that judgment Marchese and the other defendants brought a timely appeal.
Because this is an appeal from a grant of summary judgment, our review is de novo. Thus,
our task is to examine the evidence for ourselves, apply the same standard as the district court
270
(namely, the Van Dorn test), and determine whether there is no genuine issue of material fact and
whether Sea-Land is entitled to judgment as a matter of law. Bank Leumi Le-Israel, B.M. v. Lee,
928 F.2d 232, 234 (7th Cir.1991) (citing, inter alia, Fed.R.Civ.P. 56(c)).
The first and most striking feature that emerges from our examination of the record is that
these corporate defendants are, indeed, little but Marchese's playthings. Marchese is the sole
shareholder of PS, Caribe Crown, Jamar, and Salescaster. He is one of the two shareholders of TieNet. Except for Tie-Net, none of the corporations ever held a single corporate meeting. (At the
handful of Tie-Net meetings held by Marchese and Andre, no minutes were taken.) During his
deposition, Marchese did not remember any of these corporations ever passing articles of
incorporation, bylaws, or other agreements. As for physical facilities, Marchese runs all of these
corporations (including Tie-Net) out of the same, single office, with the same phone line, the same
expense accounts, and the like. And how he does "run" the expense accounts! When he fancies to,
Marchese "borrows" substantial sums of money from these corporations--interest free, of course.
The corporations also "borrow" money from each other when need be, which left at least PS
completely out of capital when the Sea-Land bills came due. What's more, Marchese has used the
bank accounts of these corporations to pay all kinds of personal expenses, including alimony and
child support payments to his ex-wife, education expenses for his children, maintenance of his
personal automobiles, health care for his pet--the list goes on and on. Marchese did not even have a
personal bank account! (With "corporate" accounts like these, who needs one?)
And Tie-Net is just as much a part of this as the other corporations. On appeal, Marchese
makes much of the fact that he shares ownership of Tie-Net, and that Sea-Land has not been able to
find an example of funds flowing from PS to Tie-Net to the detriment of Sea-Land and PS's other
creditors. So what? The record reveals that, in all material senses, Marchese treated Tie-Net like his
other corporations: he "borrowed" over $30,000 from Tie-Net; money and "loans" flowed freely
between Tie-Net and the other corporations; and Marchese charged up various personal expenses
(including $460 for a picture of himself with President Bush) on Tie-Net's credit card. Marchese
was not deterred by the fact that he did not hold all of the stock *522 of Tie-Net; why should his
creditors be? [FN2]
FN2. We note that the record evidence in this case, if true, establishes that for years
Marchese flagrantly has disregarded the tax code concerning the treatment of corporate
funds. Yet, when we inquired at oral argument whether Marchese currently is under
investigation by the IRS, his counsel informed us that to his knowledge he is not. Marchese
also stated in his deposition that he never has been audited by the IRS. If these statements
are true, and the IRS has so far shown absolutely no interest in Marchese's financial
shenanigans with his "corporations," how and why that has occurred may be the biggest
puzzles in this litigation.
In sum, we agree with the district court that their can be no doubt that the "shared
control/unity of interest and ownership" part of the Van Dorn test is met in this case: corporate
records and formalities have not been maintained; funds and assets have been commingled with
abandon; PS, the offending corporation, and perhaps others have been undercapitalized; and
corporate assets have been moved and tapped and "borrowed" without regard to their source.
Indeed, Marchese basically punted this part of the inquiry before the district court by coming
forward with little or no evidence in response to Sea-Land's extensively supported argument on these
points. That fact alone was enough to do him in; opponents to summary judgment motions cannot
271
simply rest on their laurels, but must come forward with specific facts showing that there is a
genuine issue for trial. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248-50, 106 S.Ct. 2505,
2510-11, 91 L.Ed.2d 202 (1986). See also Matsushita Elec. Indus. Co. v. Zenith Radio Corp., 475
U.S. 574, 586, 106 S.Ct. 1348, 1355, 89 L.Ed.2d 538 (1986) ("[O]pponent [to summary judgment
motion] must do more than simply show that there is some metaphysical doubt as to the material
facts."); Fed.R.Civ.P. 56(e). Regarding the elements that make up the first half of the Van Dorn
test, Marchese and the other defendants have not done so. Thus, Sea-Land is entitled to judgment on
these points.
The second part of the Van Dorn test is more problematic, however. "Unity of interest and
ownership" is not enough; Sea-Land also must show that honoring the separate corporate existences
of the defendants "would sanction a fraud or promote injustice." Van Dorn, 753 F.2d at 570. This
last phrase truly is disjunctive:
Although an intent to defraud creditors would surely play a part if established,
the Illinois test does not require proof of such intent. Once the first element of
the test is established, either the sanctioning of a fraud (intentional wrongdoing)
or the promotion of injustice, will satisfy the second element.
Id. (emphasis in original). Seizing on this, Sea-Land has abandoned the language in its two
complaints that make repeated references to "fraud" by Marchese, and has chosen not to attempt to
prove that PS and Marchese intended to defraud it--which would be quite difficult on summary
judgment. [FN3] Instead, Sea-Land has argued that honoring the defendants' separate identities
would "promote injustice."
FN3. For a discussion of facts that support a finding of intent to defraud, see Torco Oil Co. v.
Innovative Thermal Corp., 763 F.Supp. 1445, 1451-52 (N.D.Ill.1991).
But what, exactly, does "promote injustice" mean, and how does one establish it on summary
judgment? These are the critical, troublesome questions in this case. To start with, as the above
passage from Van Dorn makes clear, "promote injustice" means something less than an affirmative
showing of fraud--but how much less? In its one-sentence treatment of this point, the district court
held that it was enough that "Sea-Land would be denied a judicially-imposed recovery." Dist.Ct.Op.
at 11-12. Sea-Land defends this reasoning on appeal, arguing that "permitting the appellants to hide
behind the shield of limited liability would clearly serve as an injustice against appellee" because it
would "impermissibly deny appellee satisfaction." Appellee's Brief at 14-15. But that cannot be
what is meant by "promote injustice." The prospect of an unsatisfied judgment looms in every veilpiercing action; why else would a plaintiff bring such an action? Thus, if an unsatisfied judgment is
enough for the *523 "promote injustice" feature of the test, then every plaintiff will pass on that
score, and Van Dorn collapses into a one-step "unity of interest and ownership" test.
Because we cannot abide such a result, we will undertake our own review of Illinois cases to
determine how the "promote injustice" feature of the veil- piercing inquiry has been interpreted. In
Pederson, a recent case from the Illinois court of appeals, the court offered the following summary:
"Some element of unfairness, something akin to fraud or deception or the existence of a compelling
public interest must be present in order to disregard the corporate fiction." 214 Ill.App.3d at 821,
158 Ill.Dec. at 375, 574 N.E.2d at 169. (The court ultimately refused to pierce the corporate veil in
Pederson, at least in part because "[n]othing in these facts provides evidence of scheming on the part
272
of defendant to commit a fraud on potential creditors [of the two defendant corporations]." Id. at
823, 158 Ill.Dec. at 376, 574 N.E.2d at 170.)
The light shed on this point by other Illinois cases can be seen only if we examine the cases
on their facts. Perivoliotis v. Pierson, 167 Ill.App.3d 259, 118 Ill.Dec. 186, 521 N.E.2d 254 (1988),
was a complicated adverse possession case that addresses briefly the meaning of the "injustice"
requirement. The issue in the case was whether an individual (Woulfe) could possess a strip of land
adversely to a corporation (TomDon) that held title to the land, when Woulfe was the president and
one of only two shareholders (the other, his wife) of TomDon. The court held that, because
TomDon was merely Woulfe's alter ego, Woulfe could not possess the land "adversely." In so
holding, the court stated that "the running of the prescriptive period against a corporation's property
during a period when the corporation's principal owner and president mistakenly possessed the
encroachment area in his individual capacity defies common sense and is the type of 'injustice' that
would justify piercing the corporate veil." Id. 118 Ill.Dec. at 188, 521 N.E.2d at 256.
Gromer, Wittenstrom & Meyer, P.C. v. Strom, 140 Ill.App.3d 349, 95 Ill.Dec. 149, 489
N.E.2d 370 (1986), was another unfortunately complicated case in which our issue was addressed.
Basically, three individuals, W, M, and S, were partners. All three signed a note agreeing to be
jointly and severally liable for a debt owed to a bank. S left the partnership and it dissolved. W & M
then formed a new corporation, W & M Co., of which they were the sole shareholders. W & M Co.
paid off the bank and became the assignee of the note, and then promptly sued S for collection on the
note. Putting to one side the rather abstruse procedural posture of the case, suffice it to say that W &
M Co. won at the trial level and appealed. On appeal, S claimed that the court should pierce the
corporate veil and recognize W & M Co. for what it really was--his former partners and cosigners on
the note; the reason being that cosigners cannot payoff a note and then take judgment on the note
against another cosigner. The appellate court agreed and vacated the judgment:
We believe that these facts and arguments sufficiently indicate that to recognize
[W & M Co.] as an entity separate from its shareholders would be to sanction an
injustice. Where such an injustice would result and there is such unity of interest
between the corporation and the individual shareholders that the separate
personalities no longer exist, the corporate veil must be pierced.
Id. 95 Ill.Dec. at 153, 489 N.E.2d at 374 (citations omitted).
In B. Kreisman & Co. v. First Arlington Nat'l Bank of Arlington Heights, 91 Ill.App.3d 847,
47 Ill.Dec. 757, 415 N.E.2d 1070 (1980), the appellate court reversed the trial court's refusal to
pierce the veil. Defendant corporation stiffed plaintiff for the bill on some restaurant equipment, so
plaintiff sued for a mechanics lien. Plaintiff won at trial, but the trial court would not pierce the
defendant corporation's veil and also hold liable the individual who was the "dominant force"
controlling the defendant corporation. Noting that the equipment, though never paid for, was used
by the defendant corporation for several years, the appellate court stated, "Under these circumstances
we believe the corporate veil should be pierced to require [the 'dominant individual'] to be personally
liable; *524 to say otherwise would promote an injustice and permit her to be unjustly enriched at
plaintiff's expense." Id. 47 Ill.Dec. at 760, 415 N.E.2d at 1073 (citations omitted).
* * *
Generalizing from these cases, we see that the courts that properly have pierced corporate veils to avoid
"promoting injustice" have found that, unless it did so, some "wrong" beyond a creditor's inability to
273
collect would result: the common sense rules of adverse possession would be undermined; former
partners would be permitted to skirt the legal rules concerning monetary obligations; a party would
be unjustly enriched; a parent corporation that caused a sub's liabilities and its inability to pay for
them would escape those liabilities; or an intentional scheme to squirrel assets into a liability-free
corporation while heaping liabilities upon an asset-free corporation would be successful. Sea-Land,
although it alleged in its complaint the kind of intentional asset- and liability-shifting found in Van
Dorn, has yet to come forward with evidence akin to the "wrongs" found in these cases. Apparently,
it believed, as did the district court, that its unsatisfied judgment was enough. That belief was in
error, and the entry of summary judgment premature. We, therefore, reverse the judgment and
remand the case to the district court.
On remand, the court should require that Sea-Land produce, if it desires summary judgment,
evidence and argument that would establish the kind of additional *525 "wrong" present in the above
cases. For example, perhaps Sea-Land could establish that Marchese, like Roth in Van Dorn, used
these corporate facades to avoid its responsibilities to creditors; or that PS, Marchese, or one of the
other corporations will be "unjustly enriched" unless liability is shared by all. Of course, Sea-Land
is not required fully to prove intent to defraud, which it probably could not do on summary judgment
anyway. But it is required to show the kind of injustice to merit the evocation of the court's
essentially equitable power to prevent "injustice." It may well be that, after more of such evidence is
adduced, no genuine issue of fact exists to prevent Sea-Land from reaching Marchese's other pet
corporations for PS's debt. Or it may be that only a finder of fact will be able to determine whether
fraud or "injustice" is involved here. In any event, the record as it currently stands is insufficient to
uphold the entry of summary judgment.
REVERSED and REMANDED with instructions
Walkovszky v. Carlton
18 N.Y.2d 414, 223 N.E.2d 6, 276 N.Y.S.2d 585 (1966)
John WALKOVSZKY, Respondent,
v.
William CARLTON, Appellant, et al., Defendants.
Court of Appeals of New York.
Nov. 29, 1966.
*416 FULD, Judge.
This case involves what appears to be a rather common practice in the taxicab industry of
vesting the ownership of a taxi fleet in many corporations, each owning only one or two cabs.
***587 The complaint alleges that the plaintiff was severely injured four years ago in New York
City when he was run down by a taxicab owned by the defendant Seon Cab Corporation and
274
negligently operated at the time by the defendant Marchese. The individual defendant, Carlton, is
claimed to be a stockholder of 10 corporations, including Seon, each of which has but two cabs
registered in its name, and it is implied that only the minimum automobile liability insurance
required by law (in the amount of $10,000) is carried on any one cab. Although seemingly
independent of one another, these corporations are alleged to be 'operated * * * as a single entity,
unit and enterprise' with regard to financing, supplies, repairs, employees and garaging, and all are
named as defendants.[FN1] The plaintiff asserts that he is also entitled to hold their stockholders
personally liable for the damages sought because the multiple corporate structure constitutes an
unlawful attempt 'to defraud members of the general public' who might be injured by the cabs.
FN1 The corporate owner of a garage is also included as a defendant.
*417 The defendant Carlton has moved, pursuant to CPLR 3211(a)7, to dismiss the complaint on
the ground that as to him it 'fails to state a cause of action'. The court at Special Term granted the
motion but the Appellate Division, by a divided vote, reversed, holding that a valid cause of action
was sufficiently stated. The defendant Carlton appeals to us, from the nonfinal order, by leave of the
Appellate Division on a certified question.
The law permits the incorporation of a business for the very purpose of enabling its
proprietors to escape personal liability (see, e.g., Bartle v. Home Owners Co-op., 309 N.Y. 103, 106,
127 N.E.2d 832, 833) but, manifestly, the privilege is not without its limits. Broadly speaking, the
courts will disregard the corporate form, or, to use accepted terminology, 'pierce the corporate veil',
whenever necessary 'to prevent fraud or to achieve equity'. (International Aircraft Trading Co. v.
Manufacturers Trust Co., 297 N.Y. 285, 292, 79 N.E.2d 249, 252.) In determining whether liability
should be extended to reach assets beyond those belonging to the corporation, **8 we are guided, as
Judge Cardozo noted, by 'general rules of agency'. (Berkey v. Third Ave. Ry. Co., 244 N.Y. 84, 95,
155 N.E. 58, 61, 50 A.L.R. 599.) In other words, whenever anyone uses control of the corporation to
further his own rather than the corporation's business, he will be liable for the corporation's acts
'upon the principle of Respondeat superior applicable even where the agent is a natural person'.
(Rapid Tr. Subway Constr. Co. v. City of New York, 259 N.Y. 472, 488, 182 N.E. 145, 150.) Such
liability, moreover, extends not only to the corporation's commercial dealings (see, e.g., Y; Mangan
v. Terminal Transp. System, 247 App.Div. 853, 286 N.Y.S. 666, mot. for lv. to app. den. 272 N.Y.
676, 286 N.Y.S. 666.)
In the Mangan case (247 App.Div. 853, 286 N.Y.S. 666, mot. for lv. to app. den. 272 N.Y.
676, 286 N.Y.S. 666, supra), the plaintiff was injured as a result of the negligent operation of a cab
owned and operated by one of four corporations affiliated with the defendant Terminal. Although
the defendant was not a stockholder of any of the operating companies, both the defendant and the
operating *418 companies were owned, for the most part, by the same parties. The defendant's name
(Terminal) was conspicuously displayed on the sides of all of the taxis used in the enterprise and, in
point of fact, the defendant actually serviced, inspected, repaired and dispatched them. These facts
were deemed to provide sufficient cause for piercing the corporate veil of the operating company-the nominal owner of the cab which injured the plaintiff--and holding the defendant liable. The
operating companies were simply instrumentalities for carrying on the business of the defendant
without imposing upon it financial and other liabilities incident to the actual ownership and
operation of the cabs.
* * *
275
In the case before us, the plaintiff has explicitly alleged that none of the corporations 'had a
separate existence of their own' and, as indicated above, all are named as defendants. However, it is
one thing to assert that a corporation is a fragment of a larger corporate combine which actually
conducts the business. (See Berle, The Theory of Enterprise Entity, 47 Col.L.Rev. 343, 348--350.) It
is quite another to claim that the corporation is a 'dummy' for its individual stockholders who are in
reality carrying on the business in their personal capacities for purely personal rather than corporate
ends. (See African Metals Corp. v. Bullowa, 288 N.Y. 78, 85, 41 N.E.2d 366, 469.) Either
circumstance would justify treating the corporation as an agent and piercing the corporate veil to
reach the principal but a different result would follow in ***589 each case. In the first, only a larger
Corporate entity would be held financially responsible Y while, in the **9 other, the stockholder
would be personally liable.Y Either the stockholder is conducting the business in his individual
capacity or he is not. If he is, he will be liable; if he is not, then it does not matter-- insofar as his
personal liability is concerned--that the enterprise is actually being carried on by a larger 'enterprise
entity'. (See Berle, The Theory of Enterprise Entity, 47 Col.L.Rev. 343.)
At this stage in the present litigation, we are concerned only with the pleadings and, since
CPLR 3014 permits causes of action to be stated 'alternatively or hypothetically', it is possible for the
plaintiff to allege both theories as the basis for his demand for judgment. In ascertaining whether he
has done so, we must consider the entire pleading, educing therefrom "whatever can be imputed
from its statements by fair and reasonable intendment."Y Reading the complaint in this case most
favorably and liberally, we do not believe that there can be gathered from its averments the
allegations required to spell out a valid cause of action against the defendant Carlton.
The individual defendant is charged with having 'organized, managed, dominated and
controlled' a fragmented corporate entity but there are no allegations that he was conducting business
in his individual capacity. Had the taxicab fleet been owned by a single corporation, it would be
readily apparent that the plaintiff would face formidable barriers in attempting to establish personal
liability on the part of the corporation's stockholders. The fact that the fleet ownership has been
deliberately split up among many corporations does not ease the plaintiff's burden in that respect.
The corporate form may not be disregarded merely because the assets of the corporation, together
with the mandatory insurance coverage of the vehicle which struck the plaintiff, are insufficient to
assure him the recovery sought. If Carlton were to be held individually liable on those facts alone,
the decision would apply ***590 equally to the thousands of cabs which are owned by their
individual drivers who conduct their businesses through corporations organized pursuant to section
401 of the Business Corporation Law, Consol.Laws, c. 4 and carry the minimum insurance required
by subdivision 1 (par. (a)) of section 370 of the Vehicle and Traffic Law, Consol.Laws, c. 71. These
*420 taxi owner-operators are entitled to form such corporations (cf. Elenkrieg v. Siebrecht, 238
N.Y. 254, 144 N.E. 519, 34 A.L.R. 592), and we agree with the court at Special Term that, if the
insurance coverage required by statute 'is inadequate for the protection of the public, the remedy lies
not with the courts but with the Legislature.' It may very well be sound policy to require that certain
corporations must take out liability insurance which will afford adequate compensation to their
potential tort victims. However, the responsibility for imposing conditions on the privilege of
incorporation has been committed by the Constitution to the Legislature (N.Y. Const., art. X, s 1)
and it may not be fairly implied, from any statute, that the Legislature intended, without the slightest
discussion or debate, to require of taxi corporations that they carry automobile liability insurance
over and above that mandated by the Vehicle and Traffic Law.[FN2]
276
FN2 There is no merit to the contention that the ownership and operation of the taxi fleet
'constituted a breach of hack owners regulations as promulgated by (the) Police Department
of the City of New York'. Those regulations are clearly applicable to individual owneroperators and fleet owners alike. They were not intended to prevent either incorporation of a
single-vehicle taxi business or multiple incorporation of a taxi fleet.
**10 This is not to say that it is impossible for the plaintiff to state a valid cause of action against
the defendant Carlton. However, the simple fact is that the plaintiff has just not done so here. While
the complaint alleges that the separate corporations were undercapitalized and that their assets have
been intermingled, it is barren of any 'sufficiently particular(ized) statements' (CPLR 3013; see 3
Weinstein-Korn-Miller, N.Y. Civ.Prac., par. 3013.01 et seq., pp. 30--142 et seq.) that the defendant
Carlton and his associates are actually doing business in their individual capacities, shuttling their
personal funds in and out of the corporations 'without regard to formality and to suit their immediate
convenience.' (Weisser v. Mursam Shoe Corp., 2 Cir., 127 F.2d 344, 345, 145 A.L.R. 467, supra.)
Such a 'perversion of the privilege to do business in a corporate form' (Berkey v. Third Ave. Ry. Co.,
244 N.Y. 84, 95, 155 N.E. 58, 61, 50 A.L.R. 599, supra) would justify imposing personal liability on
the individual stockholders. (See African Metals Corp. v. Bullowa, 288 N.Y. 78, 41 N.E.2d 466,
supra.) Nothing of the sort has in fact been charged, and it cannot reasonably or logically be inferred
from the happenstance that the business of Seon *421 Cab Corporation may actually be carried on
by a larger corporate entity composed ***591 of many corporations which, under general principles
of agency, would be liable to each other's creditors in contract and in tort.[FN3]
FN3 In his affidavit in opposition to the motion to dismiss, the plaintiff's counsel claimed
that corporate assets had been 'milked out' of, and 'siphoned off' from the enterprise. Quite
apart from the fact that these allegations are far too vague and conclusory, the charge is
premature. If the plaintiff succeeds in his action and becomes a judgment creditor of the
corporation, he may then sue and attempt to hold the individual defendants accountable for
any dividends and property that were wrongfully distributed (Business Corporation Law, ss
510, 719, 720).
In point of fact, the principle relied upon in the complaint to sustain the imposition of
personal liability is not agency but fraud. Such a cause of action cannot withstand analysis. If it is
not fraudulent for the owner- operator of a single cab corporation to take out only the minimum
required liability insurance, the enterprise does not become either illicit or fraudulent merely because
it consists of many such corporations. The plaintiff's injuries are the same regardless of whether the
cab which strikes him is owned by a single corporation or part of a fleet with ownership fragmented
among many corporations. Whatever rights he may be able to assert against parties other than the
registered owner of the vehicle come into being not because he has been defrauded but because,
under the principle of Respondeat superior, he is entitled to hold the whole enterprise responsible for
the acts of its agents.
In sum, then, the complaint falls short of adequately stating a cause of action against the
defendant Carlton in his individual capacity.
The order of the Appellate Division should be reversed, with costs in this court and in the
Appellate Division, the certified question answered in the negative and the order of the Supreme
Court, Richmond County, reinstated, with leave to serve an amended complaint.
KEATING, Judge (dissenting).
277
The defendant Carlton, the shareholder here sought to be held for the negligence of the driver
of a taxicab, was a principal shareholder and organizer of the defendant corporation which owned
the taxicab. The corporation was one of 10 organized by the defendant, each containing *422 two
cabs and each cab having the 'minimum liability' insurance coverage mandated by section **11 370
of the Vehicle and Traffic Law. The sole assets of these operating corporations are the vehicles
themselves and they are apparently subject to mortgages. [FN*]
FN* It appears that the medallions, which are of considerable value, are judgment proof.
(Administrative Code of City of New York, s 436--2.0.)
From their inception these corporations were intentionally undercapitalized for the purpose of
avoiding responsibility for acts which were bound to arise as a result of the operation of a large taxi
fleet having cars out on the street 24 hours a day and engaged in public transportation. ***592 And
during the course of the corporations' existence all income was continually drained out of the
corporations for the same purpose.
The issue presented by this action is whether the policy of this State, which affords those
desiring to engage in a business enterprise the privilege of limited liability through the use of the
corporate device, is so strong that it will permit that privilege to continue no matter how much it is
abused, no matter how irresponsibly the corporation is operated, no matter what the cost to the
public. I do not believe that it is.
Under the circumstances of this case the shareholders should all be held individually liable to
this plaintiff for the injuries he suffered. (See Mull v. Colt Co., D.C., 31 F.R.D. 154, 156; Teller v.
Clear Serv. Co., 9 Misc.2d 495, 173 N.Y.S.2d 183.) At least, the matter should not be disposed of on
the pleadings by a dismissal of the complaint. 'If a corporation is organized and carries on business
without substantial capital in such a way that the corporation is likely to have no sufficient assets
available to meet its debts, it is inequitable that shareholders should set up such a flimsy organization
to escape personal liability. The attempt to do corporate business without providing any sufficient
basis of financial responsibility to creditors is an abuse of the separate entity and will be ineffectual
to exempt the shareholders from corporate debts. It is coming to be recognized as the policy of law
that shareholders should in good faith put at the risk of the business unincumbered capital reasonably
adequate for its prospective liabilities. If capital is illusory or trifling compared with the business to
be done and the risks *423 of loss, this is a ground for denying the separate entity privilege.'
(Ballantine, Corporations (rev.ed., 1946), s 129, pp. 302--303.)
* * *
*425 The policy of this State has always been to provide and facilitate recovery for those injured
through the negligence of others. The automobile, by its very nature, is capable of causing servere
and costly injuries when not operated in a proper manner. The great increase in the number of
automobile accidents combined with the frequent financial irresponsibility of the individual driving
the car led to the adoption of section 388 of the Vehicle and Traffic Law which had the effect of
imposing upon the owner of the vehicle the responsibility for its negligent **13 operation. It is upon
this very statute that the cause of action against both the corporation and the individual defendant is
predicated.
In addition the Legislature, still concerned with the financial irresponsibility of those who
owned and operated motor vehicles, enacted a statute requiring minimum liability coverage for all
owners of automobiles. The important public policy represented by both these statutes is outlined in
278
section 310 of the Vehicle and Traffic Law. That section provides that: 'The legislature is concerned
over the rising toll of motor vehicle accidents and the suffering and loss thereby inflicted. The
legislature determines that it is a matter of grave concern that motorists shall be financially able to
respond in damages for their negligent acts, so that innocent victims of motor vehicle accidents may
be recompensed for the injury and financial loss inflicted upon them.'
The defendant Carlton claims that, because the minimum amount of insurance required by
the statute was obtained, the corporate veil cannot and should not be pierced despite the fact that the
assets of the corporation which owned the cab were 'trifling compared with the business to be done
and the risks of loss' which were certain to be encountered. I do not agree.
The Legislature in requiring minimum liability insurance of $10,000, no doubt, intended to
provide at least some small fund for recovery against those individuals and corporations who just did
not have and were not able to raise or accumulate assets sufficient to satisfy the claims of those who
were injured as a result of their negligence. It certainly could not have intended to shield those
individuals who organized corporations, ***595 with the specific intent of avoiding responsibility to
the public, where the operation of the corporate enterprise yielded profits sufficient to purchase
additional insurance. Moreover, it is reasonable *426 to assume that the Legislature believed that
those individuals and corporations having substantial assets would take out insurance far in excess of
the minimum in order to protect those assets from depletion. Given the costs of hospital care and
treatment and the nature of injuries sustained in auto collisions, it would be unreasonable to assume
that the Legislature believed that the minimum provided in the statute would in and of itself be
sufficient to recompense 'innocent victims of motor vehicle accidents * * * for the injury and
financial loss inflicted upon them'.
The defendant, however, argues that the failure of the Legislature to increase the minimum
insurance requirements indicates legislative acquiescence in this scheme to avoid liability and
responsibility to the public. In the absence of a clear legislative statement, approval of a scheme
having such serious consequences is not to be so lightly inferred.
* * *
The defendant contends that a decision holding him personally liable would discourage
people from engaging in corporate enterprise.
*427 What I would merely hold is that a participating shareholder of a corporation vested with a
public interest, organized with capital insufficient to meet liabilities which are certain to arise in the
ordinary course of the corporation's business, may be held personally responsible for such liabilities.
Where corporate income is not sufficient to cover the cost of insurance premiums above the
statutory minimum or where initially adequate finances dwindle under the pressure of competition,
bad ***596 times or extraordinary and unexpected liability, obviously the shareholder will not be
held liable (Henn, Corporations, p. 208, n. 7).
The only types of corporate enterprises that will be discouraged as a result of a decision
allowing the individual shareholder to be sued will be those such as the one in question, designed
solely to abuse the corporate privilege at the expense of the public interest.
For these reasons I would vote to affirm the order of the Appellate Division.
DESMOND, C.J., and VAN VOORHIS, BURKE and SCILEPPI, JJ., concur with FULD, J.
279
KEATING, J., dissents and votes to affirm in an opinion in which BERGAN, J., concurs.
Order reversed, etc
My Bread Baking Co. v. Cumberland Farms, Inc.
353 Mass. 614, 233 N.E.2d 748 (1968)
MY BREAD BAKING CO.
v.
CUMBERLAND FARMS, INC. et al. [FN1]
FN1. Cumberland Farms Dairy Stores, Inc., Cape Cod Farms, Inc., Narragansett Food
Stores, Inc., Central Food Stores, Inc., and Commonwealth Dairy Stores, Inc. are the
codefendants.
Supreme Judicial Court of Massachusetts, Bristol.
Argued Jan. 4, 1968.
Decided Feb. 5, 1968.
*615 CUTTER, Justice.
The remaining count in this action alleges conversion of certain property by Cumberland
Farms, Inc. (C.F. Inc.). There was a substantial verdict for the plaintiff (My Bread) against C.F. Inc.
and also a verdict for each codefendant (fn. 1). The case is before us on C.F. Inc.'s exception to the
judge's refusal to direct a verdict for it. The facts are stated in their aspect most favorable to My
Bread.
In August, 1960, Byron Haseotes discussed with Joseph Duchaine, 'the sole proprietor' of My
Bread, the sale of the latter's bakery products in 'Cumberland Farms' retail dairy stores. Haseotes
was the secretary and treasurer and a stockholder of C.F. Inc., of each codefendant, and of fifteen
other corporations.
After August, 1960, My Bread began selling its bakery products in the retail dairy stores, and
provided bakery racks for use in this operation. The racks were delivered by My Bread directly to
the local store in which they were used. [FN2] In September, 1963, when the business arrangement
with My Bread was terminated, My Bread sought the return of the racks. It was prevented by the
local store managers, acting on the instructions of Haseotes, from recovering them from all but a few
of the **750 'Cumberland Farms' stores. Title to the racks remained in My Bread at all times.
FN2. These racks consisted of a check-out counter on which the store cash register was
placed, a gondola, and a bakery rack.
*616 In August, 1960, the capital stock of C.F. Inc. and of each codefendant was owned by
Haseotes, his parents, his brothers, and his sisters. There was no joint financing of these
280
corporations. The officers and directors of each corporation were the same. The sole business of the
codefendants 'was the operation of chains of (small) retail dairy stores * * * in Massachusetts * * *.'
C.F. Inc. did not operate retail stores. [FN3] It conducted 'a bottling * * * plant which processed and
packaged milk and other diary products and * * * (sold) its dairy products at * * * wholesale * * * to
the * * * five' codefendants. Haseotes testified that in August, 1960, C.F. Inc. did not sell dairy
products to all of the 'Cumberland Farms' stores in which My Bread was to sell its bakery products.
In 1962 or 1963, however, it began to do so. All of the defendants used the trade name 'Cumberland
Farms.' Persons dealing with all of these corporations treated them as 'Cumberland Farms.'
FN3. Each of the codefendants operated stores in a specified area in Massachusetts or Rhode
Island. Each corporation 'designated its various stores by numbers in a series. Thus, for
example, stores operated by Commonwealth Dairy Stores, Inc. each had a store number from
300 to 399 * * *. These store numbers were used in * * * correspondence between the
parties.' From 1960 to 1963, C.F. Inc. had a peddler's license for the sale of milk in the New
Bedford area. It owned trucks and delivered milk in 1960 and 1961 in connection with sales
of milk to the store operating corporations by the processing plants.
C.F. Inc. never owned any stock interest in the five codefendants, nor did those corporations
own any stock in it. The advertising of all six corporations was purchased in separate transactions
and always used the trade name 'Cumberland Farms.' [FN4] In August, 1960, the Haseotes family
dairy businesses were operated out of headquarters in Woonsocket. Processing and bottling were
then done in two plants, one in Woonsocket and the other in Boston. Prior to the alleged conversion,
the Woonsocket and Boston plants were consolidated in a new plant in Canton, and each defendant
corporation moved its principal office to that *617 plant. Thereafter the 'same business manager
operated all the businesses from the Canton address.' Haseotes 'participated in the operation of all
the corporations and it was his decision where money was to go in the various corporations.'
FN4. The telephone operator at the consolidated Canton plant usually answered the
telephone by saying 'Cumberland Farms' except when a caller called on a line for one of the
Haseotes family's real estate corporations.
In August, 1963, Haseotes as sales manager of C.F. Inc., signed and sent out circular
memoranda concerning the sale of bread (including My Bread products) in 'Cumberland Farms'
stores. These were on C.F. Inc. letterhead and were addressed to a large number of retail stores or
store managers in mandatory language, using such terms as 'must' and stating policies 'to be strictly
adhered to.' There was in evidence a loaf which had on its wrapper the name 'Cumberland Farms'
and a notation that it was distributed by 'Cumberland Farms, Inc. of Boston.'
Haseotes testified that, in his dealings with My Bread, he never acted on behalf of C.F. Inc.
because that corporation did not operate retail stores, nor did it have any control over the store
operating corporations. One of My Bread's officers, however, testified that he 'always dealt with * *
* Haseotes as 'Cumberland Farms',' although he did on occasion on Haseotes's request make out
checks [FN5] to **751 other corporations. He also obtained certificates of insurance which included
the names of several of the Haseotes corporations.
FN5. From August, 1960, through September, 1963, My Bread made payments in
connection with the sale of its products in 'Cumberland Farms' dairy stores. From November
29, 1962, to August 10, 1963, some five checks (totaling $9,477) from My Bread payable to
281
C.F. Inc. were delivered livered to and cashed by C.F. Inc. These moneys were deposited in
C.F. Inc.'s account and then were withdrawn and applied to the appropriate store operating
corporation account. On other occasions, My Bread checks were made payable to the
various codefendant corporations by name.
1. C.F. Inc. contends that the conversions of the bakery racks were 'committed by the local store
managers, employed by the (codefendant) store- operating corporations,' that there was no evidence
that these managers were agents for C.F. Inc. so as to make that corporation liable for their acts, and
that the codefendant corporations must each be treated as distinct and separate from C.F. Inc. and
each *618 other. The issue, of course, is whether there was evidence which, on any theory of law,
would warrant the jury in finding C.F. Inc. liable for the conversions.
C.F. Inc. thus seeks to have us apply the principle that corporations are generally to be
regarded as separate from each other and from their respective stockholders (see Marsch v. Southern
New England R.R., 230 Mass. 483, 498, 120 N.E. 120) where there is no occasion 'to look beyond
the corporate form for the purpose of defeating fraud or wrong, or for the remedying of injuries.' See
e.g. M. McDonough Corp v. Connolly, 313 Mass. 62, 65--66, 46 N.E.2d 576, 579. [FN6] The
general principle is not of unlimited application. A corporation or other person controlling a
corporation and directing, or participating actively in (see Refrigeration Discount Corp. v. Catino,
330 Mass. 230, 234--236, 112 N.E.2d 790), its operations may become subject to civil or criminal
liability on principles of agency or of causation. See Commonwealth v. Abbott Engr., Inc., 351
Mass. 568, 579--580, 222 N.E.2d 862. See also Rock-Ola Mfg. Corp. v. Music & Television Corp.,
339 Mass. 416, 422--423, 159 N.E.2d 417. This may sometimes occur where corporations are
formed, or availed of, to carry out the objectives and purposes of the corporations or persons
controlling them. See Rice V. Price, 340 Mass. 502, 511--512, 164 N.E.2d 891; Centmont Corp. v.
Marsch, 68 F.,2d 460, 464--465 (1st Cir.), cert. den. 291 U.S. 680, 54 S.Ct. 530, 78 L.Ed. 1068. See
also Finnish Temperance Soc. Sovittaja v. Finnish Socialistic Publishing Co., 238 Mass. 345, 354-356, 130 N.E. 845; Henry F. Michell Co. v. Fitzgerald, 353 Mass. ---, --- ---, [FNa] 231 N.E.2d 373.
The circumstances in which one corporation, or a person controlling it, may become liable for the
acts or torts of an affiliate or a subsidiary *619 under common control have been frequently
discussed. [FN7] Although **752 common ownership of the stock of two or more corporations
together with common management, standing alone, will not give rise to liability on the part of one
corporation for the acts of another corporation or its employees, additional facts may be such as to
permit the conclusion that an agency or similar relationship exists between the entities. Particularly
is this true (a) when there is active and direct participation by the representatives of one corporation,
apparently exercising some form of pervasive control, in the activities of another and there is some
fraudulent or injurious consequence of the intercorporate relationship, or (b) when there is a
confused interminingling of activity of two or more corporations engaged in a common enterprise
with substantial disregard of the separate nature of the corporate entities, or serious ambiguity about
the manner and capacity in which the various corporations and their respective representatives are
acting. In such circumstances, in imposing liability upon one or more of a group of 'closely
identified' corporations, a court 'need not consider with nicety which of them' ought to be held liable
for the act of one corporation 'for which the plaintiff deserves payment.' See W. W. Britton, Inc. v.
S. M. Hill Co., 327 mass. 335, 338--339, 98 N.E.2d 637, 639.
* * *
282
It may be, as one commentator suggests (see Peairs, Business Corporations ss 8--10,
esp. at p. 33), that Massachusetts has been somewhat more 'strict' than other jurisdictions
*620 in respecting the separate entities of different corporations. Nevertheless, our law
concerning disregarding the corporate fiction has been stated, in cases already cited,
essentially in the same general terms employed in decisions elsewhere (fn. 7). Where there is
common control of a group of separate corporations engaged in a single enterprise, failure (a)
to make clear which corporation is taking action in a particular situation and the nature and
extnet of that action, or (b) to observe with care the formal barriers between the corporations
with a proper segregation of their separate businesses (see Acton Plumbing & Heating Co. v.
Jared Builders, Inc., 368 Mich. 626, 628--630, 118 N.W.2d 956), records, and finances, may
warrant some disregard of the separate entitles in rare particular situations in order to prevent
gross inequity.
2. On the evidence the jury could reasonably have reached the following conclusions. (a)
Haseotes was responsible by an order to the local stores for a highhanded, inexcusable
refusal by employees of the various retail stores to return My Bread's racks to it at the
termination of the bread sale arrangement. (b) Although no one of the codefendant operating
store corporations was a subsidiary of C.F. Inc. (in the sense that C.F. Inc. owned the whole
or a part of its stock), all the defendant corporations (including C.F. Inc.) were under the full
stock control of the Haseotes family and were operated as a closely coo rdinated single
enterprise. Haseotes himself could be found to have been a dominant **753 figure in the
whole 'Cumberland Farms' enterprise. (c) The basic common enterprise was the processing,
distribution, and sale of milk and dairy products. C.F. Inc., on the evidence, could
reasonably be regarded as to the principal corporation of the enterprise and the codefendants
as its affiliates or satellites so that, when one thought of 'Cumberland Farms,' one would
naturally think of C.F. Inc. (d) Because all the corporations were operated ambiguously
from the same headquarters as part of a single enterprise, the jury could reasonably infer that
Haseotes, in furtherance of the interests of C.F. Inc. in the distribution of its products, *621
was intervening actively in the conduct of the satellite corporations. (e) Haseotes without (so
far as this record shows) clear indication of the capacity in which (and the corporations for
which) he was acting, dealt in 1960 with Duchaine of My Bread for 'Cumberland Farms' in a
very confused manner. Although My Bread's representatives probably knew of the existence
of the separate corporations, they might reasonably think (absent a clear indication by
Haseotes that he was acting for the retail store corporations and not for C.F. Inc.) that My
Bread, with respect to the general wholesale distribution of bread, was dealing with C.F Inc.
That was the corporation which was engaged, for the whole 'Cumberland Farms' enterprise,
in the general wholesale distribution of milk and other dairy products. It would have been
the logical corporation to arrange to purchase bread at wholesale for distribution through the
'Cumberland Farms' stores. (f) The bill of exceptions reveals no basis for an inference that
any of the codefendants was inadequately capitalized, a ground frequently relied upon, when
taken with other factors, as permitting disregard of a corporate entity. See e.g. Mull v. Colt
Co., Inc., 31 F.R.D. 154, 158--166 (S.D.N.Y). Cf. Hanson v. Bradley, 298 Mass. 371, 380-381, 10 N.E.2d 259; Eskimo Pie Corp. v. Whitelawn Dairies, Inc., 266 F.Supp. 79, 82
(S.D.N.Y.); Walkoszky v. Carlton, 18 N.Y.2d 414, 420-- 421, 276 N.Y.S.2d 585, 223 N.E.2d
6.
283
The jury could properly infer (because of Haseotes's actions, the general corporate
situation, and Haseotes's failure to dispel ambiguities) that Haseotes in all matters connected
with the My Bread arrangement was acting for C.F. Inc. and that the satellite companies in
following Haseotes's orders concerning the bread racks (fn. 2) were caused to act by C.F.
Inc. and were acting as its agents. See Mueller v. Seaboard Commercial Corp., 5 N.J. 28,
33--35, 73 A.2d 905. See also Wallach v. Hadley Co., 331 Mass. 699, 701, 122 N.E.2d 355.
The jury could reasonably decide that C.F. Inc., through Haseotes, brought about and
was liable for the conversions. A directed verdict was properly refused.
Exceptions overruled
Kinney Shoe Corp. v. Polan
939 F.2d 209 (1991)
KINNEY SHOE CORPORATION, a New York corporation, Plaintiff-Appellant,
v.
Lincoln M. POLAN, Defendant-Appellee.
No. 90-2466.
United States Court of Appeals,
Fourth Circuit.
Argued March 6, 1991.
Decided July 17, 1991.
As Amended Aug. 26, 1991.
OPINION
CHAPMAN, Senior Circuit Judge:
Plaintiff-appellant Kinney Shoe Corporation ("Kinney") brought this action in the United
States District Court for the Southern District of West Virginia against Lincoln M. Polan ("Polan")
seeking to recover money owed on a sublease between Kinney and Industrial Realty Company
("Industrial"). Polan is the sole shareholder of Industrial. The district court found that Polan was not
personally liable on the lease between Kinney and Industrial. Kinney appeals asserting that the
corporate veil should be pierced, and we agree.
I.
The district court based its order on facts which were stipulated by the parties. In 1984 Polan
formed two corporations, Industrial and Polan Industries, Inc., for the purpose of re-establishing an
industrial manufacturing business. The certificate of incorporation for Polan Industries, Inc. was
issued by the West Virginia Secretary of State in November 1984. The following month the
284
certificate of incorporation for Industrial was issued. Polan was the owner of both corporations.
Although certificates of incorporation were issued, no organizational meetings were held, and no
officers were elected.
In November 1984 Polan and Kinney began negotiating the sublease of a building in which
Kinney held a leasehold interest. The building was owned by the Cabell County Commission and
financed by industrial revenue bonds issued in 1968 to induce Kinney to locate a manufacturing
plant in Huntington, West Virginia. Under the terms of the lease, Kinney was legally obligated to
make payments on the bonds on a semi-annual basis through January 1, 1993, at which time it had
the right to purchase the property. Kinney had ceased using the building as a manufacturing plant in
June 1983.
The term of the sublease from Kinney to Industrial commenced in December 1984, even
though the written lease was not signed by the parties until April 5, 1985. On April 15, 1985,
Industrial subleased part of the building to Polan Industries for fifty percent of the rental amount due
Kinney. Polan signed both subleases on behalf of the respective companies.
Other than the sublease with Kinney, Industrial had no assets, no income and no bank
account. Industrial issued no stock certificates because nothing was ever paid in to this corporation.
Industrial's only income was from its sublease to Polan Industries, Inc. The first rental payment to
Kinney was made out of Polan's personal funds, and no further payments were made by Polan or by
Polan Industries, Inc. to either Industrial or to Kinney.
Kinney filed suit against Industrial for unpaid rent and obtained a judgment in the amount of
$166,400.00 on June 19, 1987. A writ of possession was issued, but because Polan Industries, Inc.
had filed for bankruptcy, Kinney did not gain possession for six months. Kinney leased the building
until it was sold on September 1, 1988. Kinney then filed this action against Polan individually to
collect the amount owed by Industrial to Kinney. Since the amount to which Kinney is entitled is
undisputed, the only issue is whether Kinney can pierce the *211 corporate veil and hold Polan
personally liable.
The district court held that Kinney had assumed the risk of Industrial's undercapitalization
and was not entitled to pierce the corporate veil. Kinney appeals, and we reverse.
II.
We have long recognized that a corporation is an entity, separate and distinct from its officers
and stockholders, and the individual stockholders are not responsible for the debts of the corporation.
See, e.g., DeWitt Truck Brokers, Inc. v. W. Ray Flemming Fruit Co., 540 F.2d 681, 683 (4th
Cir.1976). This concept, however, is a fiction of the law " 'and it is now well settled, as a general
principle, that the fiction should be disregarded when it is urged with an intent not within its reason
and purpose, and in such a way that its retention would produce injustices or inequitable
consequences.' " Laya v. Erin Homes, Inc., 352 S.E.2d 93, 97-98 (W.Va.1986) (quoting Sanders v.
Roselawn Memorial Gardens, Inc., 152 W.Va. 91, 159 S.E.2d 784, 786 (1968).
Piercing the corporate veil is an equitable remedy, and the burden rests with the party
asserting such claim. DeWitt Truck Brokers, 540 F.2d at 683. A totality of the circumstances test is
used in determining whether to pierce the corporate veil, and each case must be decided on its own
facts. The district court's findings of facts may be overturned only if clearly erroneous. Id
285
Kinney seeks to pierce the corporate veil of Industrial so as to hold Polan personally liable on
the sublease debt. The Supreme Court of Appeals of West Virginia has set forth a two prong test to
be used in determining whether to pierce a corporate veil in a breach of contract case. This test
raises two issues: first, is the unity of interest and ownership such that the separate personalities of
the corporation and the individual shareholder no longer exist; and second, would an equitable result
occur if the acts are treated as those of the corporation alone. Laya, 352 S.E.2d at 99. Numerous
factors have been identified as relevant in making this determination. [FN*]
* * *
*212 The district court found that the two prong test of Laya had been satisfied. The court
concluded that Polan's failure to carry out the corporate formalities with respect to Industrial,
coupled with Industrial's gross undercapitalization, resulted in damage to Kinney. We agree
It is undisputed that Industrial was not adequately capitalized. Actually, it had no paid in
capital. Polan had put nothing into this corporation, and it did not observe any corporate formalities.
As the West Virginia court stated in Laya, " '[i]ndividuals who wish to enjoy limited personal
liability for business activities under a corporate umbrella should be expected to adhere to the
relatively simple formalities of creating and maintaining a corporate entity.' " Laya, 352 S.E.2d at
100 n. 6 (quoting Labadie Coal Co. v. Black, 672 F.2d 92, 96-97 (D.C.Cir.1982)). This, the court
stated, is " 'a relatively small price to pay for limited liability.' " Id. Another important factor is
adequate capitalization. "[G]rossly inadequate capitalization combined with disregard of corporate
formalities, causing basic unfairness, are sufficient to pierce the corporate veil in order to hold the
shareholder(s) actively participating in the operation of the business personally liable for a breach of
contract to the party who entered into the contract with the corporation." Laya, 352 S.E.2d at 101-02
In this case, Polan bought no stock, made no capital contribution, kept no minutes, and
elected no officers for Industrial. In addition, Polan attempted to protect his assets by placing them
in Polan Industries, Inc. and interposing Industrial between Polan Industries, Inc. and Kinney so as to
prevent Kinney from going against the corporation with assets. Polan gave no explanation or
justification for the existence of Industrial as the intermediary between Polan Industries, Inc. and
Kinney. Polan was obviously trying to limit his liability and the liability of Polan Industries, Inc. by
setting up a paper curtain constructed of nothing more than Industrial's certificate of incorporation.
These facts present the classic scenario for an action to pierce the corporate veil so as to reach the
responsible party and produce an equitable result. Accordingly, we hold that the district court
correctly found that the two prong test in Laya had been satisfied
In Laya, the court also noted that when determining whether to pierce a corporate veil a third
prong may apply in certain cases. The court stated:
When, under the circumstances, it would be reasonable for that particular type of
a party [those contract creditors capable of protecting themselves] entering into a
contract with the corporation, for example, a bank or other lending institution, to
conduct an investigation of the credit of the corporation prior to entering into the
contract, such party will be charged with the knowledge that a reasonable credit
investigation would disclose. If such an investigation would disclose that the
corporation is grossly undercapitalized, based upon the nature and the magnitude
of the corporate undertaking, such party will be deemed to have assumed the risk
286
of the gross undercapitalization and will not be permitted to pierce the corporate
veil.
Laya, 352 S.E.2d at 100. The district court applied this third prong and concluded that Kinney
"assumed the risk of Industrial's defaulting" and that "the application of the doctrine of 'piercing the
corporate veil' ought not and does not [apply]." While we agree that the two prong test of Laya was
satisfied, we hold that the district court's conclusion that Kinney had assumed the risk is clearly
erroneous
Without deciding whether the third prong should be extended beyond the context of the
financial institution lender mentioned *213 in Laya, we hold that, even if it applies to creditors such
as Kinney, it does not prevent Kinney from piercing the corporate veil in this case. The third prong
is permissive and not mandatory. This is not a factual situation that calls for the third prong, if we
are to seek an equitable result. Polan set up Industrial to limit his liability and the liability of Polan
Industries, Inc. in their dealings with Kinney. A stockholder's liability is limited to the amount he
has invested in the corporation, but Polan invested nothing in Industrial. This corporation was no
more than a shell--a transparent shell. When nothing is invested in the corporation, the corporation
provides no protection to its owner; nothing in, nothing out, no protection. If Polan wishes the
protection of a corporation to limit his liability, he must follow the simple formalities of maintaining
the corporation. This he failed to do, and he may not relieve his circumstances by saying Kinney
should have known better
III.
For the foregoing reasons, we hold that Polan is personally liable for the debt of Industrial,
and the decision of the district court is reversed and this case is remanded with instructions to enter
judgment for the plaintiff
REVERSED AND REMANDED WITH INSTRUCTIONS
Silicone Gel Breast Implants Prod. Liab. Lit.
887 F.Supp. 1447 (N.D. Ala. 1995)
In re SILICONE GEL BREAST IMPLANTS PRODUCTS LIABILITY LITIGATION
No. CV 92-P-10000-S
United States District Court,
N.D. Alabama, Southern Division
April 25, 1995
*1449 OPINION
Bristol-Myers Squibb Summary Judgment
287
POINTER, Chief Judge.
Under submission after appropriate discovery, extensive briefing, and oral argument is the
motion for summary judgment filed by defendant Bristol- Myers Squibb Co. Bristol is the sole
shareholder of Medical Engineering Corporation, a major supplier of breast implants, but has never
itself manufactured or distributed breast implants. Bristol asserts that the evidence is insufficient for
the plaintiffs' claims to proceed against it, whether through piercing the corporate veil or under a
theory of direct liability. The parties agree that, with discovery substantially complete, this motion is
ripe for decision. For the reasons stated below, the court concludes that Bristol is not entitled to
summary judgment.
* * *
III. FACTS
For purposes of Bristol's summary judgment motion, the court treats the following facts as
established, either because they are not in genuine dispute or because they are supported by evidence
viewed in the light most favorable to the plaintiffs.
MEC was incorporated in Wisconsin in 1969, with its principal place of business in Racine.
It was an independent, privately-held corporation manufacturing a variety of medical and plastic
surgery devices, including breast implants.
*1450 In 1982, after an extensive due diligence review that included information regarding capsular
contracture, rupture, and gel bleed, Bristol, a Delaware corporation, purchased MEC's stock for $28
million through a series of mergers and corporate reorganizations. Bristol created a wholly-owned
subsidiary, Lakeside Engineering, Inc., a Delaware corporation, which created MEC Acquisition
Corporation, a Wisconsin corporation. After MEC merged into MEC Acquisition (extinguishing
MEC Acquisition), it then merged into Lakeside, and the surviving corporation changed its name to
Medical Engineering Corporation. Since this series of transactions in 1982, MEC, a Delaware
corporation with a principal place of business in Racine, Wisconsin, has been a wholly-owned
subsidiary of Bristol, operated by Bristol as part of its Health Care Group.
In 1988 Bristol expanded its breast implant business by purchasing from the Cooper
Companies two other breast-implant manufacturers, Natural Y Surgical Specialties, Inc. and
Aesthetech Corporation. Though executed in the name of MEC and the Cooper Companies, the
purchase was negotiated between Bristol and the Cooper Companies, and the purchase price of $8.7
million was paid from a Bristol account (though charged to MEC). The due diligence review, which
indicated potential hazards and possible liability relating to polyurethane- coated breast implants,
was conducted jointly by MEC and Bristol.
Documents reflect that MEC has had, at least in form, a board of three directors, generally
consisting of the Bristol Vice President then serving as President of Bristol's Health Care Group,
another Bristol executive, and MEC's president. Bristol's Health Care Group President, who
reported to Bristol's president or chairman, could not be outvoted by the other two MEC board
members. Several of the former MEC presidents did not recall that MEC had a board, let alone that
they were members; and one of these stated that he did not attend, call, or receive notice of board
meetings in his five years of service because he had a designated Bristol officer to contact. The few
resolutions that were adopted by MEC's board were apparently prepared by Bristol officials.
288
MEC prepared "significant event" reports for Bristol's Corporate Policy Committee. These
reports included information on breast implant production, such as publicity, testing, expenses,
lawsuit settlements, and backorders caused by sterilization difficulties. Neither Bristol managers nor
MEC Presidents recall any orders or recommendations being issued by Bristol as a result of these
reviews. Bristol also required MEC to prepare and submit a five-year plan for its review.
MEC submitted budgets for approval by Bristol's senior management. For this submission,
MEC filled out a series of standard Bristol forms that included information on projected sales, profits
and losses, cash flow, balance sheets, and capital requirements. Bristol had the authority to modify
this budget, though it rarely, if ever, actually did so.
Cash received by MEC was transferred to an account maintained by Bristol. This money was
credited to MEC, but the interest earned was credited to Bristol. Bristol was MEC's banker,
providing such loans as it determined MEC needed. Bristol required MEC to obtain its approval for
capital appropriations, [FN1] though most, if not all, of these requests were approved.
FN1. The evidence reflects, for example, that MEC sought this approval before purchasing a
laboratory sink costing $4600.
Bristol set the employment policies and wage scales that applied to MEC's employees.
Before hiring a top executive or negotiating the salary, MEC was required to seek Bristol's approval.
Before hiring a vice president of MEC, MEC's president and his superior at Bristol interviewed the
candidate. Key executive employees were rated on the Bristol schedule. Bristol set a target for
salary increases below the key executive level and approved those for employees above that level.
Key executives of MEC received stock options for Bristol *1451 stock. MEC employees could
participate in Bristol's pension and savings plans
Bristol provided various services to MEC. Zimmer International, another Bristol subsidiary,
distributed MEC breast implants but did not receive any benefit for doing so. Bristol's corporate
development group assisted MEC in seeking out new product lines. Bristol's scientific experts
researched the hazards of breast implants and polyurethane foam. Bristol provided funds for MEC
to conduct sales contests. Bristol funded tests on breast implants. Another Bristol subsidiary,
ConvaTec, assisted MEC in developing its premarket approval application (PMAA) regarding breast
implants for the FDA. In addition to this assistance, Bristol hired an outside laboratory to verify
ConvaTec's analysis. Bristol also conducted post-market surveillance at the request of the FDA
Some of Bristol's in-house counsel acted as MEC attorneys. These attorneys advised MEC
on virtually every aspect of its business including budgets, price increases, new product
development, package inserts, liability, compliance with FDA regulations, and negotiated
settlements with individuals claiming damages from breast implants. They also developed the
system for handling complaints about MEC products. They reviewed all breast implant promotional
materials and responses to allegations of harm and liability
Bristol's Technical Evaluation and Service Department ("TESD") performed auditing and
review functions for MEC once or twice a year. They performed all Good Manufacturing Practices
(GMP) audits at MEC. These audits were designed to ensure consistent quality of MEC's products.
Bristol expected MEC to comply with any manufacturing deficiencies TESD found. A number of
the conditions listed as needing corrective action regarded breast implants. TESD also audited
MEC's sterilization and lab companies
289
Bristol's public relations department issued statements regarding the allegations of TDA
production and cancer in rats implanted with polyurethane implants. Bristol's corporate
communication department prepared question and answer scripts for MEC employees for use in
responding to questions about breast implant safety. Bristol's public affairs department developed a
strategic plan to address concerns about the MEME implant and to respond to questions and
concerns about the safety of breast implants in general. Bristol's press releases consistently
represented that Bristol was researching breast implant safety. For example, in a release dated July
9, 1991, Bristol stated that tests underway would "confirm the well-established safety profile of
polyurethane coated breast implants" and that Bristol completed testing which showed that earlier
findings concerning the production of TDA from the breakdown of polyurethane were the result of
inappropriate testing conditions. In a statement dated July 24, 1991, Bristol represented that
numerous other studies were being undertaken to assure the public and the FDA of the safety of
polyurethane coated breast implants
Bristol's name and logo were contained in the package inserts and promotional products
regarding breast implants, apparently as a marketing tool to increase confidence in the product.
Bristol's name was used in all sales and promotional communications with physicians
MEC posted a profit every year between 1983 and 1990. Total sales increased from
approximately $14 million in 1983 to $65 million in 1990. Bristol never received dividends from
MEC. Bristol prepared consolidated federal income tax returns but MEC prepared its own
Wisconsin tax forms. Bristol also purchased insurance for MEC under its policy. This insurance has
a face value of over $2 billion
Bristol's executive vice president suspended MEC's sales of polyurethane coated breast
implants on April 17, 1991, and determined not to submit a PMAA for the implants to the FDA.
MEC ceased its breast implant business in 1991 and later that year MEC ceased all operations by
selling its urology division. This sale could not have occurred without Bristol's approval, and
proceeds from the sale were turned over to Bristol, which then executed a low-interest demand note
for $57,518,888 payable *1452 to MEC. MEC's only assets at this time are this demand note and its
indemnity insurance.
IV. ANALYSIS
The various theories of recovery made by plaintiffs against Bristol can be generally divided
between those involving "corporate control" and those asserting direct liability. The corporate
control claims deal with piercing the corporate veil to abrogate limited liability and hold Bristol
responsible for actions of MEC. The direct liability theories include strict products liability,
negligence, negligent failure to warn, negligence per se for not complying with FDA regulations,
misrepresentation, fraud, and participation.
A. "Corporate Control" Claims
The potential for abuse of the corporate form is greatest when, as here, the corporation is
owned by a single shareholder. The evaluation of corporate control claims cannot, however,
disregard the fact that, no different from other stockholders, a parent corporation is expected-indeed, required--to exert some control over its subsidiary. Limited liability is the rule, not the
exception. Anderson v. Abbott, 321 U.S. 349, 362, 64 S.Ct. 531, 537, 88 L.Ed. 793 (1944).
However, when a corporation is so controlled as to be the alter ego or mere instrumentality of its
290
stockholder, the corporate form may be disregarded in the interests of justice. So far as this court
has been able to determine, some variation of this theory of liability is recognized in all jurisdictions
An initial question is whether veil-piercing may ever be resolved by summary judgment.
Ordinarily the fact-intensive nature of the issue will require that it be resolved only through a trial.
Summary judgment, however, can be proper if, as occurred earlier in this litigation with respect to
claims against Dow Chemical and Corning, the evidence presented could lead to but one result.
Because the court concludes that a jury (or in some jurisdictions, the judge acting in equity) could-and, under the laws of many states, probably should--find that MEC was but the alter ego of Bristol,
summary judgment must be denied
The totality of circumstances must be evaluated in determining whether a subsidiary may be
found to be the alter ego or mere instrumentality of the parent corporation. Although the standards
are not identical in each state, all jurisdictions require a showing of substantial domination. Among
the factors to be considered are whether:
$ the parent and the subsidiary have common directors or officers
$ the parent and the subsidiary have common business departments
$ the parent and the subsidiary file consolidated financial statements and tax returns
$ the parent finances the subsidiary
$ the parent caused the incorporation of the subsidiary
$ the subsidiary operates with grossly inadequate capital
$ the parent pays the salaries and other expenses of the subsidiary
$ the subsidiary receives no business except that given to it by the parent
$ the parent uses the subsidiary's property as its own
$ the daily operations of the two corporations are not kept separate
$ the subsidiary does not observe the basic corporate formalities, such as keeping separate books
and records and holding shareholder and board meetings.
United States v. Jon-T Chemicals, Inc., 768 F.2d 686, 691-92 (5th Cir.1985), cert. denied 475 U.S.
1014, 106 S.Ct. 1194, 89 L.Ed.2d 309 (1986)
The fact-finder at a trial could find that the evidence supports the conclusion that many of
these factors have been proven: two of MEC's three directors were Bristol directors; MEC was part
of Bristol's Health Care group and used Bristol's legal, auditing, and communications departments;
MEC and Bristol filed consolidated federal tax returns and Bristol prepared consolidated financial
reports; Bristol operated as MEC's finance company, providing loans for the purchase of Aesthetech
and Natural Y, receiving interest on MEC's funds, and requiring MEC to make requests for capital
appropriations; *1453 Bristol effectively used MEC's resources as its own by obtaining interest on
MEC's money and requiring MEC to make requests for capital appropriations to obtain its own
funds; some members of MEC's board were not aware that MEC had a board of directors, let alone
that they were members; and the senior Bristol member of MEC's board could not be out-voted by
the other two directors. These facts, even apart from evidence that might establish some of the other
factors listed above, would provide significant support for a finding at trial that MEC is Bristol's
alter ego
291
Bristol contends that a finding of fraud or like misconduct is necessary to pierce the corporate
veil. Despite Bristol's contentions to the contrary, Delaware courts--to which Bristol would have this
court look--do not necessarily require a showing of fraud if a subsidiary is found to be the mere
instrumentality or alter ego of its sole stockholder. See Geyer v. Ingersoll Publications Co., 621
A.2d 784, 793 (Del.Ch.1992), Mabon, Nugent & Co. v. Texas American Energy Corp., 16
Del.J.Corp.L. 829, 838, 1990 WL 44267 (Del.Ch.1990), and Skouras v. Admiralty Enterprises, Inc.,
386 A.2d 674, 681 (Del.Ch.1978). In addition, many jurisdictions that require a showing of fraud,
injustice, or inequity in a contract case do not in a tort situation. See Jon-T Chemicals, 768 F.2d at
692. A rational distinction can be drawn between tort and contract cases. In actions based on
contract, "the creditor has willingly transacted business with the subsidiary" although it could have
insisted on assurances that would make the parent also responsible. Id. at 693. In a tort situation,
however, the injured party had no such choice; the limitations on corporate liability were, from its
standpoint, fortuitous and non-consensual
There is, however, evidence precluding summary judgment even in jurisdictions that require
a finding of fraud, inequity, or injustice. This conclusion is not based merely on the evidence that,
even accepting Bristol's contentions regarding the amount of insurance available to MEC, MEC may
have insufficient funds to satisfy the potential risks of responding to, and defending against, the
numerous existing and potential claims of the plaintiffs. Equally significant is the fact that Bristol
permitted its name to appear on breast implant advertisements, packages, and product inserts to
improve sales by giving the product additional credibility. Combined with the evidence of
potentially insufficient assets, this fact would support a finding that it would be inequitable and
unjust to allow Bristol now to avoid liability to those induced to believe Bristol was vouching for
this product
Because the evidence available at a trial could support--if not, under some state laws, perhaps
mandate--a finding that the corporate veil should be pierced, Bristol is not entitled through summary
judgment to dismissal of the claims against it.
B. Direct Liability Claims
There is an additional reason why Bristol is not entitled to summary judgment. Under the
law in most jurisdictions, it may also be subject to liability under at least one of the direct liability
claims made by plaintiffs; namely, the theory of negligent undertaking pursuant to Restatement
(Second) of Torts ' 324A. That section provides:
One who undertakes, gratuitously or for consideration, to render services to
another which he should recognize as necessary for the protection of a third
person or his things, is subject to liability to the third person for physical harm
resulting from his failure to exercise reasonable care to [perform] [FN2] his
undertakings, if
FN2. Section 324A uses the word "protect" instead of "perform."
This appears to be a typographical error. See Hill v. United States
Fidelity and Guaranty Co., 428 F.2d 112, 115 n. 5 (5th Cir.1970),
cert. denied, 400 U.S. 1008, 91 S.Ct. 564, 27 L.Ed.2d 621 (1971).
(a) his failure to exercise reasonable care increases the risk of harm, or
(b) he has undertaken to perform a duty owed by the other to the third person, or
292
(c) the harm is suffered because of a reliance of the other or the third person upon
the undertaking.
Under this theory, frequently applied in connection with safety inspections by insurers or
with third-party repairs to equipment *1454 or premises, a duty that would not otherwise have
existed can arise when an individual or company nevertheless undertakes to perform some action.
Glanzer v. Shepard, 233 N.Y. 236, 135 N.E. 275 (1922). The potential liability for failure to use
reasonable care in such circumstances extends to persons who may reasonably be expected to suffer
harm from that negligence. Doctrinally, a cause of action under ' 324A does not involve an assertion
of derivative liability but one of direct liability, since it is based on the actions of defendant itself.
The existence of a parent-subsidiary relationship, while not required, is obviously no defense to such
a claim.
* * *
By allowing its name to be placed on breast implant packages and product inserts, Bristol
held itself out as supporting the product, apparently to increase confidence in the product and to
increase sales. Bristol also issued press releases stating that polyurethane-coated breast implants
were safe. Having engaged in this type of marketing, it cannot now deny its potential responsibility
under ' 324A.
* * *
Plaintiffs have asserted various other direct liability claims against Bristol in addition to those
under ' 324A. Having concluded that, because of genuine disputes relating to corporate control
issues and relating to potential liability under ' 324A, Bristol is not entitled to summary judgment,
the court declines to address such alternative causes of action.
V. CONCLUSION
By separate order, Bristol's motion for summary judgment will be denied. As with other
orders denying summary judgment, this decision is interlocutory and does not *1455 constitute a
holding that Bristol is liable to the plaintiffs.
ORDER
For the reasons stated in the accompanying opinion, defendant Bristol-Myers Squibb's
Motion for summary judgment is hereby DENIED
Commissioner v. RLG, Inc.
755 N.E.2d 556
Supreme Court of Indiana.
COMMISSIONER, Indiana DEPARTMENT OF ENVIRONMENTAL MANAGEMENT,
Appellant (Plaintiff Below),
293
v.
RLG, INC. and Lawrence Roseman d/b/a Spring Landfill and Lawrence Roseman, et
al., Appellee (Defendant Below).
Sept. 24, 2001.
ON PETITION TO TRANSFER
BOEHM, Justice.
We hold that under some circumstances, including those here, an individual associated with a
corporation may be personally liable under the responsible corporate officer doctrine for that
corporation's violations of the Indiana Environmental Management Act, whether or not the
traditional doctrine of piercing the corporate veil would produce personal liability.
Factual and Procedural Background
On August 26, 1993, the Indiana Department of Environmental Management (IDEM)
initiated action against RLG, Inc. and Lawrence Roseman for violations of the Indiana
Environmental Management Act at RLG's Spring Valley Landfill in Wabash, Indiana. [FN1] IDEM
sought preliminary and permanent injunctive relief as well as civil penalties. In response, RLG
negotiated agreements to remedy the violations and to close the landfill and provide a post closure
plan, all by specified dates. [FN2] In return, IDEM agreed to drop its claim for other relief,
including civil penalties. In March 1994, an environmental scientist inspected the landfill and found
that the initial violations had not been remedied, and also that the subsequent agreements had been
breached. In May 1994, the trial court found that RLG had failed to comply with the agreements in
several respects and granted IDEM's motion for prejudgment possession and a temporary restraining
order. RLG was found in contempt and ordered to pay $5,000 per day as a civil penalty until it
complied with the agreements. In July 1994, IDEM filed a second amended complaint with an
additional count seeking to impose personal liability on Roseman based upon his status as the sole
corporate officer of RLG. Roseman filed answers to IDEM's interrogatories that disclosed that RLG
was insolvent.
FN1. An August 1993 affidavit signed by an inspector for IDEM lists RLG's violations as the
following: (1) litter over the site, Ind. Admin. Code tit. 329, r. 2-14-4 (repealed 1996); (2)
failure to submit statistical analysis concerning groundwater data, I.A.C. 2-16- 5; (3)
presence of organics in the groundwater at the site, I.A.C. 2- 16-2(a); (4), failure to submit
an adequate groundwater sampling and analysis plan, I.A.C. 2-16-2(a); and (5) failure to
submit a closure plan, I.A.C. 2-15.
FN2. The agreements RLG entered into in February of 1994 included the obligations to
"locat[e] active leachate seepage points at the Site," "initiate winterizing patches ... to
address the active leachate seepage points," "initiate erosion controls ... necessary to
effectively remediate or prevent off-site migration of cover soils at the Site," and "to initiate
discussion with IDEM regarding hydrogeological issues."
294
After RLG failed to answer the second amended complaint, a default judgment was entered
against it and civil penalties were assessed at $5,000 per day from the date of the temporary
restraining order for a total of $3,175,000. IDEM was also granted access to the landfill to
undertake remediation. In June 1999, after a bench trial on the issue of Roseman's personal liability
for civil penalties, judgment was entered in favor of Roseman. At Roseman's request the trial court
entered findings of fact and conclusions of law. These included: "There is no evidence the
defendant Larry Roseman ever acted in an individual capacity personally with respect to the
activities which surrounded the management and operation of RLG, Inc." or "in activities
surround[ing] the environmental regulations." Further, "[a]s a matter of law, ... defendant Larry
Roseman [is not] personally liable [for] acts done as a corporate officer for defendant RLG, Inc." and
is not "personally liable for the corporate debts of defendant." The Court of Appeals agreed with
the trial court, holding that the importance of the corporate *559 structure and a lack of evidence of
Roseman's individual involvement in the environmental violations precluded personal liability for
the acts of RLG. Comm'r, Indiana Dep't of Envtl. Mgmt. v. RLG, Inc., 735 N.E.2d 290, 299
(Ind.Ct.App.2000).
Standard of Review
On appeal from a negative judgment, this Court does not reverse the judgment of the trial
court unless it is contrary to law. * * * This Court considers the evidence in the light most favorable
to the appellee and will reverse the judgment only if the evidence leads to but one conclusion and the
trial court reached an opposite conclusion. Id.
I. Theories of Individual Liability
In general, a corporate officer or employee is not individually liable for the corporation's
actions, and an office or corporate status, even a very senior one, does not in itself expose an
individual to personal liability. However, three distinct doctrines bear on potential individual
liability under Indiana environmental management laws. In overview, an individual, though acting
in a corporate capacity as an officer, director, or employee, may be individually liable either as a
responsible corporate officer, as a direct participant under general legal principles, or under specific
statutes or provisions. These doctrines can apply to both criminal and civil liability, though their
application in either context varies with the circumstances. Of course, if the corporation is
financially responsible, and the terms of its indemnification of officers and employees are met,
individual liability for civil penalties may be largely academic. But the law has developed these
bases of individual responsibility to heighten attention to compliance and also to remove the ability
of fly-by-night operators to escape reimbursing the public cost of irresponsible operations.
A. The Responsible Corporate Officer Doctrine
The responsible corporate officer doctrine stems from a 1943 United States Supreme Court
case in which the Court interpreted the Federal Food, Drug, and Cosmetic Act, 21 U.S.C. § § 30192 (1938), to permit criminal liability to be imposed on any person within a corporation
"responsible" for introducing an adulterated or misbranded drug into interstate commerce. United
States v. Dotterweich, 320 U.S. 277, 64 S.Ct. 134, 88 L.Ed. 48 (1943). "[An] offense is committed ...
by all who do have such a responsible share in the furtherance of the transaction which the statute
295
outlaws...." Id. at 284, 64 S.Ct. 134. The Court reasoned, "[T]he only way in which a corporation can
act is through the individuals who act on its behalf." Id. at 281, 64 S.Ct. 134. This liability was
justified on the basis that the Food, Drug, and Cosmetic Act "touch[es] phases of the lives and health
of people which, in the circumstances of modern industrialism, are largely beyond self-protection."
Id. at 280, 64 S.Ct. 134.
In United States v. Park, 421 U.S. 658, 673-74, 95 S.Ct. 1903, 44 L.Ed.2d 489 (1975), the
Supreme Court, drawing on Dotterweich, concluded that the government establishes a prima facie
violation of the Food, Drug, and Cosmetic Act as a responsible corporate officer when:
it introduces evidence sufficient to warrant a finding by the trier of the facts that the defendant had,
by reason of his position in the corporation, responsibility and authority either to prevent in the
first instance, or promptly to correct, the violation complained of, and that he failed to do so.
The responsible corporate officer doctrine has been applied to public welfare offenses if "a
statute is intended to improve the common good and the legislature eliminates the normal
requirement for culpable intent, resulting in strict liability for all those who have a responsible share
in the offense." Matter of Dougherty, 482 N.W.2d 485, 489 (Minn.Ct.App.1992).
Although it originated as a criminal law doctrine, the responsible corporate officer doctrine
has been applied to civil liability under a number of federal statutes. See United States v.
Northeastern Pharm. & Chem. Co., 810 F.2d 726, 743-44 (8th Cir.1986) (addressing personal
liability under Comprehensive Environmental Response, Compensation, and Liability Act
(CERCLA)); United States v. Hodges X-Ray, Inc., 759 F.2d 557, 560-61 (6th Cir.1985) (assessing a
violation of the Radiation Control for Health and Safety Act (RCHSA): "The fact that a corporate
officer could be subjected to criminal punishment upon a showing of a responsible relationship to the
acts of a corporation that violate health and safety statutes renders civil liability appropriate as
well."); United States v. Conservation Chem. Co., 660 F.Supp. 1236, 1245-46 (N.D.Ind.1987)
(president and principal stockholder of corporation operating hazardous waste facility in Gary,
Indiana may be personally liable for violation of Resource Conservation and Recovery Act
(RCRA)).
Similarly, several states have adopted the responsible corporate officer doctrine as
appropriate under state legislation addressing public safety, in particular, disposal of hazardous
waste. Matter of Dougherty, 482 N.W.2d at 488-90 (Minnesota's hazardous waste laws are public
welfare statutes and subject to the responsible corporate officer doctrine); State ex rel. Webster v.
Mo. Resource Recovery, Inc., 825 S.W.2d 916, 924-26 (Mo.Ct.App.1992) (applying doctrine to
Missouri's Hazardous Waste Management Law); State, Dep't of Ecology v. Lundgren, 94
Wash.App. 236, 971 P.2d 948, 951-53 (1999) (sole shareholder of corporation that operated sewage
treatment plant is personally liable for violation of Washington's Water Pollution Control Act); State
v. Rollfink, 162 Wis.2d 121, 475 N.W.2d 575, 576 (1991) (corporate officer may be held personally
liable for violations of Wisconsin's solid and hazardous waste laws if the "officer is responsible for
the overall operation of the corporation's facility which violated the law").
B. Individual Liability as a Participant
296
As a matter of general criminal law, an individual who participates in a criminal violation is
criminally responsible even if acting in a corporate capacity. See Doyle v. State, 468 N.E.2d 528,
542 (Ind.Ct.App.1984), trans. denied. The same is true of civil tort liability. See Civil Rights
Comm'n v. County Line Park, Inc., 738 N.E.2d 1044, 1050 (Ind.2000) ( "[A corporate] officer is
personally liable for the torts in which she has participated or which she has authorized or
directed.").
C. Statutory Liability under Environmental Management Laws
Under Indiana Code section 13-30-6-4, "A responsible corporate officer may be prosecuted
for a violation of section 1, 2, or 3 of this chapter in accordance with IC 35-41-2-4." The criminal
code section to which this refers is the general "aiding and abetting" statute, which provides that one
who aids a crime commits that crime. Under these provisions, aiding or directing a crime, if done
"intentionally or knowingly" is sufficient to support criminal responsibility under Indiana Code
sections 13- 30-6- 4 and 35-41-2-4. See Tobar v. State, 740 N.E.2d 109, 112 (Ind.2000). The
landfill violations would have constituted a violation of Indiana Code section 13-30-6-1. Statutory
civil liability is more expansive than criminal liability. Unlike the criminal liability provision in the
environmental management laws, the provision imposing civil liability has no "mens rea"
requirement of knowledge or willfulness. Indiana Code section 13-30-4-1 imposes civil liability on
"a person who violates" environmental management laws.
A "person," for purposes of
environmental management laws, includes "an individual, a partnership, a copartnership, a firm, a
company, a corporation...." Ind.Code § 13-11-2-158 (1998). Both general legal principles and the
language of the statute support the conclusion that an individual acting for a corporation
participating in a violation of a statute listed in Indiana Code section 13-30-4-1 may be individually
liable for civil penalties under that section, and, if acting with the requisite mens rea, may be
criminally responsible for violations of Indiana Code sections 13-30- 6-1 through 3. As elaborated in
Part II, Roseman is individually liable under all three of the theories discussed in this section.
II. Roseman's Liability
A. Roseman as a Responsible Corporate Officer
The Court of Appeals determined that it was unnecessary either to adopt or reject the
responsible corporate officer doctrine because the court found the evidence inadequate to establish
Roseman as a responsible party under Park, as formulated in Dougherty. RLG, 735 N.E.2d at 299.
We disagree. Roseman was the sole shareholder of RLG, Inc., which operated the Spring Valley
Landfill. As Indiana corporate law allows in a company with only one shareholder, Roseman was
the single director. From RLG's inception in 1988, Roseman served as its only corporate officer,
holding the offices of president, secretary, and treasurer. As is typical of a single shareholder
corporation, only Roseman appears in the corporate minutes in any capacity.
These factors, individually or collectively, are not enough to establish individual liability
under the responsible corporate officer doctrine. It is not Roseman's status as officer, director, or
sole shareholder of RLG that is determinative under this theory. Each of these in itself may be
sufficiently removed from the relevant corporate activities that the individual is not a "responsible
corporate officer" despite high corporate office.
Rather it is Roseman's direction of and
297
involvement in operating the landfill, his representation to IDEM that he was the responsible party,
and his actual role in the corporation's activities that are critical.
Matter of Dougherty, 482 N.W.2d 485, 490 (Minn.Ct.App.1992), formulated the standard of
a responsible corporate officer as:
(1) the individual must be in a position of responsibility which allows the person to influence
corporate policies or activities; (2) there must be a nexus between the individual's position and the
violation in question such that the individual could have influenced the corporate actions which
constituted the violations; and (3) the individual's actions or inactions facilitated the violations.
This is a fair restatement of the responsible corporate officer doctrine as articulated in United
States v. Park, 421 U.S. 658, 673-74, 95 S.Ct. 1903, 44 L.Ed.2d 489 (1975). Roseman meets all
these criteria. He plainly had a position that allowed him to influence RLG's policies and functions.
Indeed, he dominated the corporation. He also designated himself as the responsible party in the
solid waste permit application, establishing the necessary nexus between his position and
environmental compliance. Finally, his acts facilitated the violation.
The facts of this case are analogous to Dougherty, where the Minnesota Court of Appeals
based responsible corporate officer liability on findings that the defendant "was in a position of
responsibility as president and primary emergency coordinator," that the violations were within his
"sphere of influence," that he "was the primary contact with all regulatory bodies concerning
hazardous waste," and that he "failed to prevent the violations and take proper corrective action once
the violations occurred." Dougherty, 482 N.W.2d at 490. Here there is no subordinate or
intermediate officer principally responsible for compliance, and Roseman was directly involved in at
least some corporate activities. Either may be sufficient, and in concert they demonstrate that
Roseman had both the responsibility and authority to prevent the IEMA violations in the first
instance and to correct the violations once they were brought to his attention. Cf. Park, 421 U.S. at
673-74, 95 S.Ct. 1903. In any event, Roseman's voluntary assumption of the role of responsible
party is also sufficient. When Roseman signed IDEM's character disclosure statement, he did not
cite the corporation's activities to demonstrate its capacity to operate a proposed landfill. Rather he
pointed to his own individual experience as "Director" of a landfill for three years as fulfilling the
requirement of experience of the "applicant". Thus, by his own admission, he was the party
responsible for the landfill's operations, and held himself out as the responsible party in obtaining the
permit.
B. Roseman's Individual Participation and Statutory Liability
Corporate status was not Roseman's only involvement in the IEMA violations. According to
Jim Ritchie, who operated a bulldozer and backhoe at the landfill from April 1990 until April 1991,
Roseman was at the landfill site approximately five days per month, and Roseman ordered the
landfill's manager and Ritchie to "landfill garbage outside of the permitted landfill contours." This
was evidence of Roseman's direct participation in the environmental violation.
Equally important, the environmental laws require that there be a "Responsible Party"
incident to the permitting of a landfill. [FN3] When RLG filled out IDEM's "Waste Facility
298
Character Disclosure Statement" in 1991, Roseman listed RLG in Section D as the "Responsible
Party," but signed his own name as the "Applicant/Responsible Party." Section D2 of that form also
requires the applicant or responsible party to list his, her, or its experience in managing the type of
waste for which the permit was sought. Significantly, Roseman listed his individual three years of
experience as director of Spring Valley Landfill as supplying the "Responsible Party's" experience in
waste management at the contemplated site. Finally, once the violations became the subject of court
order, Roseman, who had sole, ultimate control over RLG, did not act to correct them.
FN3. "Responsible Party" for purposes of Indiana Code section 13- 19-4 (formerly section
13-7-10.2), the section under which Roseman filed for a solid waste permit, means:
(1) an officer, a corporation director, or a senior management official of a corporation,
partnership, limited liability company, or business association that is an applicant; or
(2) an individual, a corporation, a limited liability company, a partnership, or a business
association that owns, directly or indirectly, at least a twenty percent (20%) interest in the
applicant.
Ind.Code § 13-11-2-191(a) (1998).
The trial court's findings did not address Ritchie's affidavit describing Roseman's direct
involvement in placing the garbage outside the permitted area, or the fact that Roseman represented
himself, not RLG, to be the "Responsible Party" with three years experience as director of the
landfill. All of these are documented and essentially indisputable. The Court of Appeals observed
that "[t]he evidence discloses [only] that Roseman conducted himself as a corporate officer." RLG,
735 N.E.2d at 299. But that circumstance addresses only the piercing of the corporate veil and does
not in itself eliminate liability under Indiana statute or the responsible corporate officer doctrine.
Finally, Ritchie's uncontradicted affidavit established that Roseman directly supervised at least some
of the landfill's daily unlawful waste disposal activities. This undisputed evidence of Roseman's
active involvement in the violations is also sufficient to impose personal liability.
III. Personal Liability and Piercing the Corporate Veil
Roseman argues that an important cornerstone of Indiana law is respect for the corporate
form, and that he may not be held personally liable unless RLG disregarded corporate structure and
served as a mere instrumentality for his own business sufficient to pierce the corporate veil. We do
not agree that Roseman's liability depends on piercing the corporate veil. In general, that doctrine
holds individuals liable for corporate actions based on the failure to observe corporate formalities.
Aronson v. Price, 644 N.E.2d 864, 867 (Ind.1994). The corporate veil is pierced only where it is
clear that the corporation is merely a shell for conducting the defendant's own business and where
the misuse of the corporate form constitutes a fraud or promotes injustice. Id. Unlike the responsible
corporate office doctrine, or specific statutory liability, veil piercing is not dependent on the nature
of the liability. In contrast, Roseman's liability here is essentially based on his individual
participation in the violations, their character as violations of laws affecting public health, and
specific statutory liability. The responsible corporate officer doctrine is distinct from piercing the
corporate veil, and explicitly expands liability beyond veil piercing. See United States v.
Dotterweich, 320 U.S. 277, 282, 64 S.Ct. 134, 88 L.Ed. 48 (1943) ("If the [FDCA] were construed
[to limit liability to the corporation], the penalties of the law could be imposed only in the rare case
where the corporation is merely an individual's alter ego."). The same is plainly true of statutory
299
liabilities. We agree that the record in this case does not support piercing the corporate veil.
Roseman is entitled to the benefit of corporate limited liability even if he owned all of the shares of
RLG and was its only officer and director. A corporate officer is not liable simply because of his
position within the corporation. United States v. Park, 421 U.S. 658, 674, 95 S.Ct. 1903, 44 L.Ed.2d
489 (1975). A corporate officer may, however, be held personally liable if he was actively involved
in the activity that violates the statute. United States v. Conservation Chem. Co., 733 F.Supp. 1215,
1221 (N.D.Ind.1989). For the reasons discussed in Part II, Roseman is also liable under Indiana's
Environmental Management Act.
Conclusion
For all these reasons, we conclude that Roseman may be held personally liable for civil
penalties for the violations committed at the Spring Valley Landfill and the resulting remediation
costs. The judgment of the trial court is reversed and remanded for entry of judgment in favor of
IDEM and against Roseman in the amount of the default judgment of $3,175,000.
SHEPARD, C.J., and DICKSON, SULLIVAN, and RUCKER, JJ., concur.
Goodwin v. Agassiz
283 Mass. 358, 186 N.E. 659 (1933)
GOODWIN
v
AGASSIZ et al
Supreme Judicial Court of Massachusetts, Suffolk
June 29, 1933.
RUGG, Chief Justice.
A stockholder in a corporation seeks in this suit relief for losses suffered by him in selling
shares of stock in Cliff Mining Company by way of accounting, rescission of sales, or redelivery of
shares. The named defendants are MacNaughton, a resident of Michigan not served or appearing,
and Agassiz, a resident of this commonwealth, the active party defendant
The trial judge made findings of fact, rulings, and an order dismissing the bill. There is no
report of the evidence. The case must be considered on the footing that the findings are true. The
facts thus displayed are these: The defendants, in May, 1926, purchased through brokers on the
Boston stock exchange seven hundred shares of stock of the Cliff Mining Company which up to that
time the plaintiff had owned. Agassiz was president and director and MacNaughton a director and
general manager of the company. They had certain knowledge, material as to the value of the stock,
which the plaintiff did not have. The plaintiff contends that such purchase in all the circumstances
300
without disclosure to him of that knowledge was a wrong against him. That knowledge was that an
experienced geologist had formulated in writing in March, 1926, a theory as to the possible existence
of copper deposits under conditions prevailing in the region where the property of the company was
located. That region was known as the mineral belt in Northern Michigan, where are located mines
of several copper mining companies. Another such company, of which the defendants were officers,
had made extensive geological surveys of its lands. In consequence of recommendations resulting
from that survey, exploration was started on property of the Cliff Mining Company in 1925. That
exploration was ended *360 in May, 1926, because completed unsuccessfully, and the equipment
was removed. The defendants discussed the geologist's **660 theory shortly after it was formulated.
Both felt that the theory had value and should be tested, but they agreed that, before starting to test it,
options should be obtained by another copper company of which they were officers on land adjacent
to or nearby in the copper belt, that if the geologist's theory were known to the owners of such other
land there might be difficulty in securing options, and that that theory should not be communicated
to any one unless it became absolutely necessary. Thereafter, options were secured which, if taken
up, would involve a large expenditure by the other company. The defendants both thought, also that,
if there was any merit in the geologist's theory, the price of Cliff Mining Company stock in the
market would go up. Its stock was quoted and bought and sold on the Boston Stock Exchange.
Pursuant to agreement, they bought many shares of that stock through agents on joint account. The
plaintiff first learned of the closing of exploratory operations on property of the Cliff Mining
Company from an article in a paper on May 15, 1926, and immediately sold his shares of stock
through brokers. It does not appear that the defendants were in any way responsible for the
publication of that article. The plaintiff did not know that the purchase was made for the defendants
and they did not know that his stock was being bought for them. There was no communication
between them touching the subject. The plaintiff would not have sold his stock if he had known of
the geologist's theory. The finding is express that the defendants were not guilty of fraud, that they
committed no breach of duty owed by them to the Cliff Mining Company, and that that company
was not harmed by the nondisclosure of the geologist's theory, or by their purchases of its stock, or
by shutting down the exploratory operations
The contention of the plaintiff is that the purchase of his stock in the company by the
defendants without disclosing to him as a stockholder their knowledge of the geologist's theory, their
belief that the theory was true, had value, *361 the keeping secret the existence of the theory,
discontinuance by the defendants of exploratory operations begun in 1925 on property of the Cliff
Mining Company and their plan ultimately to test the value of the theory, constitute actionable
wrong for which he as stockholder can recover
The trial judge ruled that conditions may exist which would make it the duty of an officer of
a corporation purchasing its stock from a stockholder to inform him as to knowledge possessed by
the buyer and not by the seller, but found, on all the circumstances developed by the trial and set out
at some length by him in his decision, that there was no fiduciary relation requiring such disclosure
by the defendants to the plaintiff before buying his stock in the manner in which they did
The question presented is whether the decree dismissing the bill rightly was entered on the
facts found
The directors of a commercial corporation stand in a relation of trust to the corporation and
are bound to exercise the strictest good faith in respect to its property and business. ... The contention
that directors also occupy the position of trustee toward individual stockholders in the corporation is
301
plainly contrary to repeated decisions of this court and cannot be supported. In Smith v. Hurd, 12
Metc. 371, 384, 46 Am. Dec. 690, it was said by Chief Justice Shaw: 'There is no legal privity,
relation, or immediate connexion, between the holders of shares in a bank, in their individual
capacity, on the one side, and the directors of the bank on the other. The directors are not the bailees,
the factors, agents or trustees of such individual stockholders.' ... In Blabon v. Hay, 269 Mass. 401,
407, 169 N. E. 268, 271, occurs this language with reference to sale of stock in a corporation by a
stockholder to two of its directors: 'The fact that the defendants were directors created no fiduciary
relation between them and the plaintiff in the matter of the sale of his stock.'
*362 The principle thus established is supported by an imposing weight of authority in other
jurisdictions. ... A rule holding that directors are trustees for individual stockholders with respect to
their stock prevails in comparatively few states; but in view of our own adjudications it is not
necessary to review decisions to that effect. ...
While the general principle is as stated, circumstances may exist requiring that transactions
between a director and a stockholder as to stock in the corporation be set aside. The knowledge
naturally in the possession of a director as to the condition of a corporation places upon him a
peculiar obligation to observe every requirement of fair dealing when directly buying or selling its
stock. Mere silence does not usually amount to a breach of duty, but parties may stand in such
relation to each other that an equitable responsibility arises to communicate facts. Wellington v.
Rugg, 243 Mass. 30, 35, 136 N. E. 831. Purchases and sales of stock dealt in on the stock exchange
are commonly impersonal affairs. An honest director would be in a difficult situation if he could
neither buy nor sell on the stock exchange shares of stock in his corporation without first seeking out
the other actual ultimate party to the transaction and disclosing to him everything which a court or
jury might later find that he then knew affecting the real or speculative value of such shares.
Business of that nature is a matter to be governed by practical rules. Fiduciary *363 obligations of
directors ought not to be made so onerous that men of experience and ability will be deterred from
accepting such office. Law in its sanctions is not coextensive with morality. It cannot undertake to
put all parties to every contract on an equality as to knowledge, experience, skill and shrewdness. It
cannot undertake to relieve against hard bargains made between competent parties without fraud. On
the other hand, directors cannot rightly be allowed to indulge with impunity in practices which do
violence to prevailing standards of upright business men. Therefore, where a director personally
seeks a stockholder for the purpose of buying his shares without making disclosure of material facts
within his peculiar knowledge and not within reach of the stockholder, the transaction will be closely
scrutinized and relief may be granted in appropriate instances .... The applicable legal principles
'have almost always been the fundamental ethical rules of right and wrong.' Robinson v. Mollett, L.
R. 7 H. L. 802, 817
The precise question to be decided in the case at bar is whether on the facts found the
defendants as directors had a right to buy stock of the plaintiff, a stockholder. Every element of
actual fraud or misdoing by the defendants is negatived by the findings. Fraud cannot be presumed;
it must be proved. Brown v. Little, Brown & Co., Inc., 269 Mass. 102, 117, 168 N. E. 521, 66 A. L.
R. 1284. The facts found afford no ground for inferring fraud or conspiracy. The only knowledge
possessed by the defendants not open to the plaintiff was the existence of a theory formulated in a
thesis by a geologist as to the possible existence of copper deposits where certain geological
conditions existed common to the property of the Cliff Mining Company and that of other mining
companies in its neighborhood. This thesis did not express an opinion that copper deposits would be
302
found at any particular spot *364 or on property of any specified owner. Whether that theory was
sound or fallacious, no one knew, and so far as appears has never been demonstrated. The defendants
made no representations to anybody about the theory. No facts found placed upon them any
obligation to disclose the theory. A few days after the thesis expounding the theory was brought to
the attention of the defendants, the annual report by the directors of the Cliff Mining Company for
the calendar year 1925, signed by Agassiz for the directors, was issued. It did not cover the time
when the theory was formulated. The report described the status of the operations under the
exploration which had been begun in 1925. At the annual meeting of the stockholders of the
company held early in April, 1926, no reference was made to the theory. It was then at most a hope,
possibly an expectation. It had not passed the nebulous stage. No disclosure was made of it. The
Cliff Mining Company was not harmed by the nondisclosure. There would have been no advantage
to it, so far as appears, from a disclosure. The disclosure would have been detrimental to the interests
of another mining corporation in which the defendants were directors. In the circumstances there was
no duty on the part of the defendants to set forth to the stockholders at the annual meeting their faith,
aspirations and plans for the future. Events as they developed might render advisable vadical
changes in such views. Disclosure of the theory, if it ultimately was proved to be erroneous or
without foundation in fact, might involve the defendants in litigation with those who might act on
the hypothesis that it was correct. The stock of the Cliff Mining Company was bought and sold on
the stock exchange. The identity of buyers and seller of the stock in question in fact was not known
to the parties and perhaps could not readily have been ascertained. The defendants caused the shares
to be bought through brokers on the stock exchange. They said nothing to anybody as to the reasons
actuating them. The plaintiff was no novice. He was a member of the Boston stock exchange and had
kept a record of sales of Cliff Mining Company stock. He acted upon his own judgment in *365
selling his stock. He made no inquiries of **662 the defendants or of other officers of the company.
The result is that the plaintiff cannot prevail
Decree dismissing bill affirmed with costs.
Shlensky v. Wrigley
95 Ill.App.2d 173, 237 N.E.2d 776 (1968)
William SHLENSKY, on Behalf of and as a Representative of Chicago National
League Ball Club (Inc.), Plaintiff-Appellant,
v.
Philip K. WRIGLEY, William Wrigley, William J. Hagenah, Jr., George F. Getz,
Philip H. Erbes, Gilbert H. Scribner, Arthur E. Meyerhoff, John Holland, Jack
Brickhouse and Chicago National League Ball Club (Inc.), Defendants-Appellees
Gen. No. 51750
303
Appellate Court of Illinois, First District, Third Division
April 25, 1968.
SULLIVAN, Justice.
This is an appeal from a dismissal of plaintiff's amended complaint on motion of the
defendants. The action was a stockholders' derivative suit against the directors for negligence and
mismanagement. The corporation was also made a defendant. Plaintiff sought damages *175 and an
order that defendants cause the installation of lights in Wrigley Field and the scheduling of night
baseball games.
Plaintiff is a minority stockholder of defendant corporation, Chicago National League Ball
Club (Inc.), a Delaware corporation with its principal place of business in Chicago, Illinois.
Defendant corporation owns and operates the major league professional baseball team known as the
Chicago Cubs. The corporation also engages in the operation of Wrigley Field, the Cubs' home
park, the concessionaire sales during Cubs' home games, television and radio broadcasts of Cubs'
home games, the leasing of the field for football games and other events and receives its share, as
visiting team, of admission moneys from games played in other National League stadia. The
individual defendants are directors of the Cubs and have served for varying periods of years.
Defendant Philip K. Wrigley is also president of the corporation and owner of approximately 80%
Of the stock therein
Plaintiff alleges that since night baseball was first played in 1935 nineteen of the twenty
major league teams have scheduled night games. In 1966, out of a total of 1620 games in the major
leagues, 932 were played at night. Plaintiff alleges that every member of the major leagues, other
than the Cubs, scheduled substantially all of its home games in 1966 at night, exclusive of opening
days, Saturdays, Sundays, holidays and days prohibited by league rules. Allegedly this has been
done for the specific purpose of maximizing attendance and thereby maximizing revenue and income
The Cubs, in the years 1961--65, sustained operating losses from its direct baseball
operations. Plaintiff attributes those losses to inadequate attendance at Cubs' home games. He
concludes that if the directors continue to refuse to install lights at Wrigley Field and schedule *176
night baseball games, the Cubs will continue to sustain comparable losses and its financial condition
will continue to deteriorate
**778 Plaintiff alleges that, except for the year 1963, attendance at Cubs' home games has been
substantially below that at their road games, many of which were played at night
Plaintiff compares attendance at Cubs' games with that of the Chicago White Sox, an
American League club, whose weekday games were generally played at night. The weekend
attendance figures for the two teams was similar; however, the White Sox week-night games drew
many more patrons than did the Cubs' weekday games
Plaintiff alleges that the funds for the installation of lights can be readily obtained through
financing and the cost of installation would be far more than offset and recaptured by increased
revenues and incomes resulting from the increased attendance
Plaintiff further alleges that defendant Wrigley has refused to install lights, not because of
interest in the welfare of the corporation but because of his personal opinions 'that baseball is a
'daytime sport' and that the installation of lights and night baseball games will have a deteriorating
304
effect upon the surrounding neighborhood.' It is alleged that he has admitted that he is not interested
in whether the Cubs would benefit financially from such action because of his concern for the
neighborhood, and that he would be willing for the team to play night games if a new stadium were
built in Chicago
Plaintiff alleges that the other defendant directors, with full knowledge of the foregoing
matters, have acquiesced in the policy laid down by Wrigley and have permitted him to dominate the
board of directors in matters involving the installation of lights and scheduling of night games, even
though they knew he was not motivated *177 by a good faith concern as to the best interests of
defendant corporation, but solely by his personal views set forth above. It is charged that the
directors are acting for a reason or reasons contrary and wholly unrelated to the business interests of
the corporation; that such arbitrary and capricious acts constitute mismanagement and waste of
corporate assets, and that the directors have been negligent in failing to exercise reasonable care and
prudence in the management of the corporate affairs.
The question on appeal is whether plaintiff's amended complaint states a cause of action. It
is plaintiff's position that fraud, illegality and conflict of interest are not the only bases for a
stockholder's derivative action against the directors. Contrariwise, defendants argue that the courts
will not step in and interfere with honest business judgment of the directors unless there is a showing
of fraud, illegality or conflict of interest.
The cases in this area are numerous and each differs from the others on a factual basis.
However, the courts have pronounced certain ground rules which appear in all cases and which are
then applied to the given factual situation.
* * *
In Davis v. Louisville Gas & Electric Co., 16 Del.Ch. 157, 142 A. 654, a minority
shareholder sought to have the directors enjoined from amending the certificate of incorporation.
The court said on page 659:
'We have then a conflict in view between the responsible managers of a
corporation and an overwhelming majority of its stockholders on the one hand
and a dissenting minority on the other--a conflict touching matters of business
policy, such as has occasioned innumerable applications to courts to intervene
and determine which of the two conflicting views should prevail. The response
which courts make to such applications is that it is not their function to resolve
for corporations questions of policy and business management. The directors are
chosen to pass upon such questions and their judgment Unless shown to be
tainted with fraud is accepted as final. The judgment of the directors of
corporations enjoys the benefit of a presumption that it was formed in good faith
and was designed to promote the best interests of the corporation they serve.'
(Emphasis supplied)
Similarly, the court in Toebelman v. Missour-Kansas Pipe Line Co., D.C., 41 F.Supp. 334,
said at page 339:
*179 'The general legal principle involved is familiar. Citation of authorities is
of limited value because the facts of each case differ so widely. Reference may
be made to the statement of the rule in Helfman v. American Light & Traction
305
Company, 121 N.J.Eq. 1, 187 A. 540, 550, in which the Court stated the law as
follows: 'In a purely business corporation * * * the authority of the directors in
the conduct of the business of the corporation must be regarded as absolute when
they act within the law, and the court is without authority to substitute its
judgment for that of the directors."
Plaintiff argues that the allegations of his amended complaint are sufficient to set forth a
cause of action under the principles set out in Dodge v. Ford Motor Co., 204 Mich. 459, 170 N.W.
668. In that case plaintiff, owner of about 10% Of the outstanding stock, brought suit against the
directors seeking payment of additional dividends and the enjoining of further business expansion.
In ruling on the request for dividends the court indicated that the motives of Ford in keeping so much
money in the corporation for expansion and security were to benefit the public generally and spread
the profits out by means of more jobs, etc. The court felt that these were not only far from related to
the good of the stockholders, but amounted to a change in the ends of the corporation and that this
was not a purpose contemplated or allowed by the corporate charter.
* * *
There must be fraud or a breach of that good faith which directors are bound to exercise **780
toward the stockholders in order to justify the courts entering into the internal affairs of corporations.
This is made clear when the court refused to interfere with the directors decision to expand the
business.
* * *
Plaintiff in the instant case argues that the directors are acting for reasons unrelated to the
financial interest and welfare of the Cubs. However, we are not satisfied that the motives assigned to
Philip K. Wrigley, and through him to the other directors, are contrary to the best interests of the
corporation and the stockholders. For example, it appears to us that the effect on the surrounding
neighborhood might well be considered by a *181 director who was considering the patrons who
would or would not attend the games if the park were in a poor neighborhood. Furthermore, the long
run interest of the corporation in its property value at Wrigley Field might demand all efforts to keep
the neighborhood from deteriorating. By these thoughts we do not mean to say that we have decided
that the decision of the directors was a correct one. That is beyond our jurisdiction and ability. We
are merely saying that the decision is one properly before directors and the motives alleged in the
amended complaint showed no fraud, illegality or conflict of interest in their making of that decision
While all the courts do not insist that one or more of the three elements must be present for a
stockholder's derivative action to lie, nevertheless we feel that unless the conduct of the defendants
at least borders on one of the elements, the courts should not interfere. The trial court in the instant
case acted properly in dismissing plaintiff's amended complaint
We feel that plaintiff's amended complaint was also defective in failing to allege damage to
the corporation.
* * *
There is no allegation that the night games played by the other nineteen teams enhanced their
financial position or that the profits, if any, of those teams were directly related to the number of
night games scheduled. There is an allegation that the installation of lights and *182 scheduling of
night games in Wrigley Field would have resulted in large amounts of additional revenues and
306
incomes from increased attendance and related sources of income. Further, the cost of installation of
lights, funds for which are allegedly readily available by financing, would be more than offset and
recaptured by increased revenues. However, no allegation is made that there will be a net benefit to
the corporation from such action, considering all increased costs.
Plaintiff claims that the losses of defendant corporation are due to poor attendance at home
games. However, it appears **781 from the amended complaint, taken as a whole, that factors other
than attendance affect the net earnings or losses. For example, in 1962, attendance at home and road
games decreased appreciably as compared with 1961, and yet the loss from direct baseball operation
and of the whole corporation was considerably less.
The record shows that plaintiff did not feel he could allege that the increased revenues would
be sufficient to cure the corporate deficit. The only cost plaintiff was at all concerned with was that
of installation of lights. No mention was made of operation and maintenance of the lights or other
possible increases in operating costs of night games and we cannot speculate as to what other factors
might influence the increase or decrease of profits if the Cubs were to play night home games. * * *
Plaintiff's allegation that the minority stockholders and the corporation have been seriously and
irreparably damaged by the wrongful conduct of the defendant directors is a mere conclusion and not
based on well pleaded facts in the amended complaint.
Finally, we do not agree with plaintiff's contention that failure to follow the example of the
other major league clubs in scheduling night games constituted negligence. Plaintiff made no
allegation that these teams' night schedules were profitable or that the purpose for which night
baseball had been undertaken was fulfilled. Furthermore, it cannot be said that directors, even those
of corporations that are losing money, must follow the lead of the other corporations in the field.
Directors are elected for their business capabilities and judgment and the courts cannot require them
to forego their judgment because of the decisions of directors of other companies. Courts may not
decide these questions in the absence of a clear showing of dereliction of duty on the part of the
specific directors and mere failure to 'follow the crowd' is not such a dereliction.
For the foregoing reasons the order of dismissal entered by the trial court is affirmed.
Affirmed.
DEMPSEY, P.J., and SCHWARTZ, J., concur.
Kamin v. American Express Co.
86 Misc.2d 809, 383 N.Y.S.2d 807 (1976)
Howard P. KAMIN and Robert J. Kamin, Plaintiffs,
v.
AMERICAN EXPRESS COMPANY, a New York Corporation, et al., Defendants
Supreme Court, New York County, New York,
307
Special Term, Part I
March 17, 1976.
EDWARD J. GREENFIELD, Justice:
In this stockholders' derivative action, the individual defendants, who are the directors of the
American Express Company, move for an order dismissing the complaint for failure to state a cause
of action pursuant to CPLR 3211(a)(7), and alternatively, for summary judgment pursuant to CPLR
3211(c)
The complaint is brought derivatively by two minority stockholders of the American Express
Company, asking for a declaration that a certain dividend in kind is a waste of *811 corporate assets,
directing the defendants not to proceed with the distribution, or, in the alternative, for monetary
damages. The motion to dismiss the complaint requires the Court to presuppose the truth of the
allegations. It is the defendants' contention that, conceding everything in the complaint, no viable
cause of action is made out
After establishing the identity of the parties, the complaint alleges that in 1972 American
Express acquired for investment 1,954,418 shares of common stock of Donaldson, Lufken and
Jenrette, Inc. (hereafter DLJ), a publicly traded corporation, at a cost of $29.9 million. It is further
alleged that the current market value of those shares is approximately $4.0 million. On July 28,
1975, it is alleged, the Board of Directors of American Express declared a special dividend to all
stockholders of record pursuant to which the shares of DLJ would be distributed in kind. Plaintiffs
contend further that if American Express were to sell the DLJ shares on the market, it would sustain
a capital loss of $25 million, which could be offset against taxable capital gains on other
investments. Such a sale, they **810 allege, would result in tax savings to the company of
approximately $8 million, which would not be available in the case of the distribution of DLJ shares
to stockholders. It is alleged that on October 8, 1975 and October 16, 1975, plaintiffs demanded that
the directors rescind the previously declared dividend in DLJ shares and take steps to preserve the
capital loss which would result from selling the shares. This demand was rejected by the Board of
Directors on October 17, 1975
It is apparent that all the previously-mentioned allegations of the complaint go to the question
of the exercise by the Board of Directors of business judgment in deciding how to deal with the DLJ
shares. The crucial allegation which must be scrutinized to determine the legal sufficiency of the
complaint is paragraph 19, which alleges:
'19. All of the defendant Directors engaged in or acquiesced in or negligently
permitted the declaration and payment of the Dividend in violation of the
fiduciary duty owed by them to Amex to care for and preserve Amex's assets in
the same manner as a man of average prudence would care for his own property.'
Plaintiffs never moved for temporary injunctive relief, and did nothing to bar the actual
distribution of the DLJ shares. The dividend was in fact paid on October 31, 1975. Accordingly,
that portion of the complaint seeking a direction not to *812 distribute the shares is deemed to be
moot, and the Court will deal only with the request for declaratory judgment or for damages
Examination of the complaint reveals that there is no claim of fraud or self- dealing, and no
contention that there was any bad faith or oppressive conduct. The law is quite clear as to what is
necessary to ground a claim for actionable wrongdoing.
308
'In actions by stockholders, which assail the acts of their directors or trustees,
courts will not interfere unless the powers have been illegally or
unconscientiously executed; or unless it be made to appear that the acts were
fraudulent or collusive, and destructive of the rights of the stockholders. Mere
errors of judgment are not sufficient as grounds for equity interference, for the
powers of those entrusted with corporate management are largely discretionary.'
Leslie v. Lorillard, 110 N.Y. 519, 532, 18 L.E. 363, 365.
* * *
More specifically, the question of whether or not a dividend is to be declared or a
distribution of some kind should be made is exclusively a matter of business judgment for the
Board of Directors.
'* * * Courts will not interfere with such discretion unless it be first made to
appear that the directors have acted or are about to act in bad faith and for a
dishonest purpose. It is for the directors to say, acting in good faith of course,
when and to what extent dividends shall be declared * * * The statute confers
upon the directors this power, and the minority stockholders are not in a position
to question this right, so long as the directors are acting in good faith * * *'
Liebman v. Auto Strop Co., 241 N.Y. 427, 433--4, 150 N.E. 505, 506.
* * *
Thus, a complaint must be dismissed if all that is presented is a decision to pay dividends
rather than pursuing some other course of conduct. Weinberger v. Quinn, 264 App.Div. 405, 35
N.Y.S.2d 567, affd. 290 N.Y. 635, 49 N.E.2d 131. A complaint which alleges merely that some
course of action other than that pursued by the Board of Directors would have been more
advantageous gives rise to no cognizable cause of action. Courts have more than enough to do in
adjudicating legal rights and devising remedies for wrongs. The directors' room rather than the
courtroom is **811 the appropriate forum for thrashing out purely business questions *813 which
will have an impact on profits, market prices, competitive situations, or tax advantages.
* * *
It is not enough to allege, as plaintiffs do here, that the directors made an imprudent
decision, which did not capitalize on the possibility of using a potential capital loss to offset capital
gains. More than imprudence or mistaken judgment must be shown.
'Questions of policy of management, expediency of contracts or action, adequacy
of consideration, lawful appropriation of corporate funds to advance corporate
interests, are left solely to their honest and unselfish decision, for their powers
therein are without limitation and free from restraint, and the exercise of them for
the common and general interests of the corporation may not be questioned,
although the results show that what they did was unwise or inexpedient.' Pollitz
v. Wabash Railroad Co., 207 N.Y. 113, 124, 100 N.E. 721, 724.
Section 720(a)(1)(A) of the Business Corporation Law permits an action against directors for
'the neglect of, or failure to perform, or other violation of his duties in the management and
disposition of corporate assets committed to his charge.' This does not mean that a director is
chargeable with ordinary negligence for having made an improper decision, or having acted
309
imprudently. The 'neglect' referred to in the statute is neglect of duties (i.e., malfeasance or
nonfeasance) and not misjudgment. To allege that a director 'negligently permitted the declaration
and payment' of a dividend without alleging fraud, dishonesty or nonfeasance, is to state merely that
a decision was taken with which one disagrees
Nor does this appear to a be a case in which a potentially valid cause of action is inartfully
stated. The defendants have moved alternatively for summary judgment and have submitted
affidavits under CPLR 3211(c), and plaintiffs likewise have submitted papers enlarging upon the
allegations of the complaint. The affidavits of the defendants and the exhibits annexed thereto
demonstrate that the objections raised by the plaintiffs to the proposed dividend action were
carefully considered and unanimously rejected by the Board at a special meeting called precisely for
that purpose at the plaintiffs' request. The minutes of the special meeting indicate that the *814
defendants were fully aware that a sale rather than a distribution of the DLJ shares might result in the
realization of a substantial income tax saving. Nevertheless, they concluded that there were
countervailing considerations primarily with respect to the adverse effect such a sale, realizing a loss
of $25 million, would have on the net income figures in the American Express financial statement.
Such a reduction of net income would have a serious effect on the market value of the publicly
traded American Express stock. This was not a situation in which the defendant directors totally
overlooked facts called to their attention. They gave them consideration, and attempted to view the
total picture in arriving at their decision. While plaintiffs contend that according to their accounting
consultants the loss on the DLJ stock would still have to be charged against current earnings even if
the stock were distributed, the defendants' accounting experts assert that the loss would be a charge
against earnings only in the event of a sale, whereas in the event of distribution of the stock as a
dividend, the proper accounting treatment would be to charge the loss only against surplus. While
the chief accountant for the SEC raised some question as to the appropriate accounting treatment of
this transaction, there was no basis for any action to be taken by the SEC with respect to the
American Express financial statement
The only hint of self-interest which is raised, not in the complaint but in **812 the papers on
the motion, is that four of the twenty directors were officers and employees of American Express and
members of its Executive Incentive Compensation Plan. Hence, it is suggested, by virtue of the
action taken earnings may have been overstated and their compensation affected thereby. Such a
claim is highly speculative and standing alone can hardly be regarded as sufficient to support an
inference of self-dealing. There is no claim or showing that the four company directors dominated
and controlled the sixteen outside members of the Board. Certainly, every action taken by the Board
has some impact on earnings and may therefore affect the compensation of those whose earnings are
keyed to profits. That does not disqualify the inside directors, nor does it put every policy adopted
by the Board in question. All directors have an obligation, using sound business judgment, to
maximize income for the benefit of all persons having a stake in the welfare of the corporate entity.
See, Amdur v. Meyer, 15 A.D.2d 425, 224 N.Y.S.2d 440, appeal dismissed 14 N.Y.2d 541, 248
N.Y.S.2d 639, 198 N.E.2d 30. What we have here as revealed *815 both by the complaint and by
the affidavits and exhibits, is that a disagreement exists between two minority stockholders and a
unanimous Board of Directors as to the best way to handle a loss already incurred on an investment.
The directors are entitled to exercise their honest business judgment on the information before them,
and to act within their corporate powers. That they may be mistaken, that other courses of action
might have differing consequences, or that their action might benefit some shareholders more than
others presents no basis for the superimposition of judicial judgment, so long as it appears that the
310
directors have been acting in good faith. The question of to what extent a dividend shall be declared
and the manner in which it shall be paid is ordinarily subject only to the qualification that the
dividend be paid out of surplus (Business Corporation Law Section 510, subd. b). The Court will
not interfere unless a clear case is made out of fraud, oppression, arbitrary action, or breach of trust.
* * *
In this case it clearly appears that the plaintiffs have failed as a matter of law to make out an
actionable claim. Accordingly, the motion by the defendants for summary judgment and dismissal
of the complaint is granted.
Joy v. North
692 F.2d 880 (2nd Cir.1982)
Athalie Doris JOY, Plaintiff-Appellant,
v.
Nelson L. NORTH, et al., Defendants,
Nelson L. North, et al., Defendants-Appellees
No. 1050, Docket 81-7729
United States Court of Appeals,
Second Circuit
Argued April 23, 1982
Decided Nov. 4, 1982.
RALPH K. WINTER, Circuit Judge:
This is an appeal from a grant of summary judgment for defendants by the District Court for
the District of Connecticut, Eginton, Judge, dismissing a derivative action against certain directors
and officers of Citytrust upon a recommendation of a special litigation committee and placing that
report under seal. 519 F.Supp. 1312 (D.Conn.1981)
We reverse
BACKGROUND
In October of 1977, Dr. Athalie Doris Joy brought this shareholder's derivative suit on behalf
of Connecticut Financial Services Corporation (now Citytrust Bancorp, Inc.) against its whollyowned banking subsidiary, Citytrust, [FN1] and the officers and directors of Citytrust. Both
corporations are incorporated in Connecticut. The complaint alleged diversity of citizenship,
common law breach of trust and of fiduciary duty as well as violations of the National Bank Act, 12
U.S.C. ' 84 (1976), which limits aggregate loans to a single person or entity to 10% of a bank's
combined stockholder equity and capital. The allegations concern loans made by Citytrust to the
311
Katz Corporation ("Katz") for construction of an office building in a redevelopment area of
Norwalk, Connecticut. Plaintiff seeks a $6 million recovery plus interest and attorney's fees.
FN1. Citytrust became a federal bank on June 30, 1971. It became a state bank again on
January 1, 1977.
The underlying transactions need only be briefly summarized at this point. In 1967, Citytrust
entered into a 20-year term lease agreement for approximately 9% of an office building which Katz
was planning to build in Norwalk. Katz, then a respected developer, signed a $4 million
construction mortgage for a one-and-a-half year term on January 12, 1971. Although the mortgage
was written through and recorded in the name of Citytrust, Chase Manhattan Bank provided the bulk
of the financing, $3.5 million, with Citytrust participating to the extent of $500,000. At this time,
Katz had already borrowed, largely in unsecured form, an additional $250,000 from Citytrust to
finance construction of the office building. As the building neared completion in early 1972, Katz
had drawn down the full value of the $4 million mortgage. At its expiration in June, 1972, the Chase
mortgage *883 was replaced by a $4.5 million mortgage by First National City Bank, with Citytrust
both issuing the mortgage and participating to the extent of $90,000. Meanwhile, Katz continued to
receive unsecured loans from Citytrust. By December, 1972, that unsecured debt reached $900,000,
for a total of $990,000 in Citytrust loans related to the building
In June, 1973, with the building only half rented, the First National City mortgage was
extended for a year. Katz's unsecured debt to Citytrust had by now climbed to $1,840,000. In
November, in conjunction with the issuance of yet another loan to Katz, Citytrust obtained a blanket
second mortgage on the building and on other Katz properties to secure what was now a total loan
balance of $2,140,000. Shortly thereafter, the First National City mortgage was extended to August,
1975, and Citytrust lent Katz another $300,000. Just prior to this extension of credit, the National
Bank Examiners classified the Katz loans
In April, 1975, a refinancing plan was completed with Lincoln National Life Insurance
Company providing a $6 million loan to a Katz-related partnership which had taken title to the
building. The loan was secured by a first mortgage on the building and was used to consolidate
Katz's debt. As a condition of the new financing, Citytrust was required to take a 30-year master
lease on the still largely unrented building at a rental equaling the mortgage payments to Lincoln
National, in effect guaranteeing Katz's $6 million obligation to Lincoln. In addition to undertaking
the master lease, Citytrust had by now extended $2,665,000 in loans to Katz
In May, 1975, the National Bank Examiners classified $2 million of the Katz loans as
doubtful and required a charge off of $665,000. On August 18, 1976, in an apparent effort to
salvage what was left of its position, Citytrust's Board of Directors authorized loans which exceeded
the 10% federal statutory limit. After these loans were consummated, Katz's total indebtedness to
Citytrust reached $3,545,000. On October 20, 1976, Citytrust charged off the $2 million remaining
on the second mortgage.
On June 13, 1977, the Katz-related partnership relinquished title to the building to Citytrust
in exchange for a release from its obligation to Lincoln National and a release of personal guarantees
previously assumed by members of the Katz family. Citytrust thus directly assumed the $6 million
Lincoln National mortgage. In October, 1977, Second Nutmeg Financial purchased the building for
$9,600,000 which consisted of its assumption of the $6 million Lincoln National mortgage and a
$3,600,000 note to Citytrust secured by a second mortgage. There is an indication in the District
312
Court record that an affiliate of Second Nutmeg which later acquired the building has defaulted and
Citytrust once again owns it, along with the concurrent obligations. There is no indication that rental
income is now adequate to meet those obligations, and we appear free to assume that the other Katz
properties covered by the second mortgage are not of any significant value.
* * *
Nine months later, the Committee issued a Report recommending that the suit be
discontinued as to 23 defendants, 20 of whom were outside directors of either Citytrust or
Connecticut Financial Services and three of whom were either officers or directors or both. (The 23
will hereafter be referred to as the "outside defendants"). The Committee concluded there was "no
reasonable possibility" that the outside defendants would be found liable. Its Report also
recommended that settlement be considered with regard to seven defendants who were the senior
officers most directly involved in the Katz loans. (These seven will hereafter be referred to as the
"inside defendants"). As to them, the Committee found there was a "possibility" that one or more
might be found to have been negligent.
* * *
When plaintiff declined to withdraw the action as to the outside defendants, the corporation
filed a motion to dismiss the case as to them.
* * *
After discovery, Judge Eginton granted the defendants' motion for summary judgment, the
protective order remaining in force. Concluding that no dispositive Connecticut case or statute
exists, Judge Eginton referred to the weight of authority in cases reported elsewhere. He held that
Connecticut law permits the use of a Burks committee and that the business judgment rule limits
judicial scrutiny of its recommendations to the good faith, independence and thoroughness of the
Committee. 519 F.Supp. at 1325. He resolved these issues favorably to the Committee and,
therefore, entered summary judgment in favor of the 23 outside defendants. Plaintiff appeals from
the ruling. We reverse as to both the grant of summary judgment and the sealing of the Committee
report. [FN4]
* * *
DISCUSSION
* * *
Appellees assert that, since a board of directors can delegate all its powers to a committee,
Conn.Gen.Stat.Ann. ' 33-318(a) (West 1982), a special litigation committee of independent directors
can decide whether a derivative action should be dismissed or continued. They further argue that,
when an appropriate motion is made, courts must defer to the committee's recommendation under
the so-called business judgment rule, even though the delegation of power is made by directors who
are defendants in the action. Judge Eginton adopted that position and limited his inquiry to the
Committee's good faith, independence and thoroughness. Appellees also assert that the Committee
Report in question may be kept under seal, any public use being in violation of the District Court's
order. Appellant claims an absolute right to maintain a derivative action once begun and challenges
the protective order on constitutional and non-constitutional grounds
313
An examination of these claims requires a discussion of some underlying principles of
corporate law. Our opinion first addresses the nature and function of the business judgment rule,
which played a large role in persuading the District Court to dismiss this action. It turns then to the
legal oddity known as the derivative action, thought by many to be an endangered species as a
consequence of the evolution of special litigation committees.
* * *
A. The Liability of Corporate Directors and Officers and the Business Judgment Rule
While it is often stated that corporate directors and officers will be liable for negligence in
carrying out their corporate duties, all seem agreed that such a statement is misleading. See
generally, Lattin, Corporations, 272-75 (1971). Whereas an automobile driver who makes a mistake
in judgment as to speed or distance injuring a pedestrian will likely be called upon to respond in
damages, a corporate officer who makes a mistake in judgment as to economic conditions, consumer
tastes or production line efficiency will rarely, if ever, be found liable for damages suffered by the
corporation. See generally, Symposium, Officers' and Directors' Responsibilities and Liabilities, 27
Bus.Lawyer 1 (1971); Fever, Personal Liabilities of Corporate Officers and Directors, 28-42 (2d ed.
1974). Whatever the terminology, the fact is that liability is rarely imposed upon corporate directors
or officers simply for bad judgment and this reluctance to impose liability for unsuccessful business
decisions has been doctrinally labelled the business judgment rule. Although the rule has suffered
under academic criticism, see, e.g., Cary, Standards of Conduct Under Common Law, Present Day
Statutes and the Model Act, 27 Bus.Lawyer 61 (1972), it is not without rational basis
First, shareholders to a very real degree voluntarily undertake the risk of bad business
judgment. Investors need not buy stock, for investment markets offer an array of opportunities less
vulnerable to mistakes in judgment by corporate officers. Nor need investors buy stock in particular
corporations. In the exercise of what is genuinely a free choice, the quality of a firm's management is
often decisive and information is available from professional advisors. Since shareholders can and
do select among investments partly on the basis of management, the business judgment rule merely
recognizes a certain voluntariness in undertaking the risk of bad business decisions
*886 Second, courts recognize that after-the-fact litigation is a most imperfect device to evaluate
corporate business decisions. The circumstances surrounding a corporate decision are not easily
reconstructed in a courtroom years later, since business imperatives often call for quick decisions,
inevitably based on less than perfect information. The entrepreneur's function is to encounter risks
and to confront uncertainty, and a reasoned decision at the time made may seem a wild hunch
viewed years later against a background of perfect knowledge
Third, because potential profit often corresponds to the potential risk, it is very much in the
interest of shareholders that the law not create incentives for overly cautious corporate decisions.
Some opportunities offer great profits at the risk of very substantial losses, while the alternatives
offer less risk of loss but also less potential profit. Shareholders can reduce the volatility [FN5] of
risk by diversifying their holdings. In the case of the diversified shareholder, the seemingly more
risky alternatives may well be the best choice since great losses in some stocks will over time be
offset by even greater gains in others. [FN6] Given mutual funds and similar forms of diversified
investment, courts need not bend over backwards to give special protection to shareholders who
refuse to reduce the volatility of risk by not diversifying. A rule which penalizes the choice of
seemingly riskier alternatives thus may not be in the interest of shareholders generally.
314
* * *
Whatever its merit, however, the business judgment rule extends only as far as the reasons
which justify its existence. Thus, it does not apply in cases, e.g., in which the corporate decision
lacks a business purpose, see Singer v. Magnavox, 380 A.2d 969 (Del.Supr.1977), is tainted by a
conflict of interest, Globe Woolen v. Utica Gas & Electric Co., 224 N.Y. 483, 121 N.E. 378 (1918),
is so egregious as to amount to a no-win decision, Litwin v. Allen, 25 N.Y.S.2d 667
(N.Y.Co.Sup.Ct.1940), or results from an obvious and prolonged failure to exercise oversight or
supervision, McDonnell v. American Leduc Petroleums, Ltd., 491 F.2d 380 (2d Cir.1974); Atherton
v. Anderson, 99 F.2d 883 (6th Cir.1938). Other examples may occur.
* * *
We turn now to the contents of the Special Litigation Committee's Report. We emphasize
that this recitation is the Committee's version of the facts. The record suggests that a trial might
reveal sharply differing versions of the same events from various witnesses as well as sharply
differing inferences drawn from that testimony
According to the Report, Nelson L. North was Citytrust's Chief Executive Officer and
Norman Schaff, Jr. was its Chief Lending Officer during the period in question. The management of
Citytrust was completely dominated by North. Bank officers who did not temper themselves to his
regime had a short tenure at the bank. North also exercised strong control over the activities of the
Board of Directors. Board members were given neither materials nor agendas prior to meetings and
requests for long range planning documents were left unanswered. North's control is illustrated by
the fact that contrary to the recommendation of Citytrust's outside auditors, the bank's Audit
Committee was not composed solely of outside directors but instead counted among its members Mr.
North and one other officer. Minutes of the Audit Committee between 1971 and 1974 are largely
incomplete
Mr. North apparently brought the initial proposal for the Katz loan to Citytrust. From 1971
to 1976, North's son was employed by Katz, and he apparently deemed this a sufficient conflict of
interest to preclude his voting on the Katz transactions in Executive Committee meetings. This
fastidiousness appears to have been limited to the formality of voting, for the Report strongly
suggests that North was deeply involved in the Katz transactions, although the full degree of his
involvement is left uncertain. The Report also adds that Mr. North has destroyed his records
Katz appears to have been experiencing financial difficulties as early as 1971. Chase
Manhattan in fact opposed financing the Katz building in part because of a $1.6 *895 million
shortfall between the building cost and available lending; it was North who persuaded Chase to
make the initial mortgage loan. By 1972, Katz was falling behind in its loans and by December of
that year owed Citytrust $990,000 with respect to the building. The Report concludes that by then
Citytrust was effectively a joint venturer with Katz in the building, sharing the risk of loss but
entitled at best only to interest and principal if things went well. There is also some indication that a
portion of the unsecured advance made by Citytrust was being applied to the Chase mortgage
Notwithstanding the increasingly evident peril in Citytrust's transactions with Katz, no
appraisals of the buildings were undertaken until 1976, and no rentability study until 1974.
Although Katz had suggested that a public offering would alleviate the situation, no professional
review of the preliminary prospectus was undertaken. From 1972 through 1973, only one meeting of
the Board of Directors or Executive Committee considered the Katz loans. The Senior Loan
315
Committee did meet on the Katz matter late in 1972 and may have adopted a very cautious attitude
toward further credit extension. Despite this, and despite the absence of Executive Committee and
Board support, senior management extended almost a million dollars in loans to Katz between 1972
and 1973
From 1973 through 1974, the number of Board meetings at which the Katz loans were
considered increased to five. This is roughly contemporaneous with the recommendation of the
outside auditors that a 50% special fund be set up for the Katz loans and the National Bank
Examiners' classification of the total outstanding Katz indebtedness as substandard. It is, as the
Report notes, "unsettling" that neither Schaff nor Citytrust's Comptroller recall being advised of the
recommendation as to the special reserve. Moreover, it is not established that the Directors were
advised of this recommendation
By late 1974, the Katz loans were so clearly a problem that they were extensively considered
by the Board and the Executive Committee. In fact, the Report notes that these loans were discussed
at a minimum of 25 Board and Executive Committee meetings. Nevertheless, when, on August 18,
1976, the Board was presented with the request to go over the 10% limit, there was no prior mention
of the issue on the agenda nor was opinion of counsel presented to the Board or even sought.
Indeed, copies of the Comptroller's letter suggesting that Directors might wish to consult their
personal counsel were not distributed to the Board
The Report estimates a loss of $5.1 million to Citytrust. As stated earlier, there is an
indication in the record that since the Report was issued, the new owner has defaulted and Citytrust
again owns the building. If so, $5.1 million may be considerably less than the actual loss. In any
event, a loss exceeding 10% of shareholder equity seems quite likely
The Report contains the opinion of two experts. One concluded that the impact on morale of
bank personnel, on the image of Citytrust among the banking public, upon persons who might be
asked to become directors and upon potential new customers would offset even a recovery of $5.5
million. [FN12] The other reached a different conclusion, stating that a recovery of even $2 million
would be worth pursuing notwithstanding speculation about the public impact. It stated that this
opinion would stand whether or not the outside directors continue as defendants, "as long as the
insurance carrier is obligated through the 'D and O policy'." This last phrase might have given the
Committee some pause since the letter requesting the opinion indicated that the insurance carrier had
raised a question as to its liability.
* * *
As to the claims of breach of fiduciary duty, the Committee recommended that the suit be
discontinued as to the outside defendants because there is "no reasonable possibility" that they might
be found liable. As to the others, it concluded merely that
there is a possibility that a finding of negligence could be rendered against any
one or more of the senior loan officers who participated in the Katz Corporation
loans. Although it is emphasized that there is no evidence whatsoever of any
self-dealing or of any deliberate impropriety, there is some indication that the
most prudent lending principles were not adhered to during the evolution of those
loans.
316
Applying the standard of review set out above to the Committee's recommendation, we look
first to potential liability generally without regard to which defendants are responsible. As to that
liability, we find that plaintiff's chances of success are rather high. The loss to Citytrust resulted
from decisions which put the bank in a classic "no win" situation. The Katz venture was risky and
increasingly so. By continuing extensions of substantial amounts of credit the bank subjected the
principal to those risks although its potential gain was no more than the interest it could have earned
in less risky, more diversified loans. In a real sense, there was a low ceiling on profits but only a
distant floor for losses. It is so similar to the classic case of Litwin v. Allen, supra (bank purchase of
bonds with an option in the seller to repurchase at the original price, the bank thus bearing the entire
risk of a drop in price with no hope of gain beyond the stipulated interest) that we cannot agree with
the Committee's conclusion that only a "possibility of a finding of negligence" exists
The issue as to which defendants are responsible is less clear. The Committee concluded that
there is "no reasonable possibility" of the outside defendants being found liable because they had
neither information nor reasonable notice of the problems raised by the Katz transactions. We note
first that members of the inside defendants may contradict that version and, if so, a possibility of
liability in the outside group exists. Moreover, lack of knowledge is not necessarily a defense, if it is
the result of an abdication of directional responsibility. McDonnell, supra; Atherton, supra.
Directors who willingly allow others to make major decisions affecting the future of the corporation
wholly without supervision or oversight may not defend on their lack of knowledge, for that
ignorance itself is a breach of fiduciary duty. The issue turns in large part upon how and why these
defendants were left in the dark. See Graham v. Allis Chalmers Mfg. Co., 41 Del.Ch. 78, 188 A.2d
125 (1963). An individual analysis of each outside defendant's role may show that some are
blameless or even that they all were justified in not acting before they did, but neither is an
inexorable conclusion on the basis of the present record
The Report concluded as to the inside defendants that there was a "possibility" of liability.
This conclusion is a considerable understatement and not entirely consistent with the Report's
finding as to the outside defendants. The outsiders' best defense may well be that the inside group
actively concealed the Katz problem. Given the fact that exoneration of the outside defendants may
show culpability of the insiders and our conclusion that the probability of liability somewhere is
high, we think the exposure of the inside group is considerably more than a "possibility." Nor do we
agree that "there is no evidence whatsoever" of deliberate impropriety. Not only is there the problem
of North's apparently inconsistent behavior with respect to the appropriateness *897 of his
participation in the considerations of Katz transactions, but his failure to keep the Board of Directors
informed may well entail more than a negligent omission
A precise estimate of potential damages is not possible since the trier must determine at what
point liability begins. We think, however, that on the present record, a trier might easily find
liability extending back to early 1972 or before (assuming no statute of limitations problem),
resulting in a return of several million dollars to Citytrust, or perhaps 10% or more of the
shareholder equity. This far exceeds the potential cost of the litigation to the corporation
CONCLUSION
Applying the analysis described above, we conclude that the probability of a substantial net
return to the corporation is high. We reject, therefore, the recommendation of the Special Litigation
Committee. The grant of summary judgment is reversed, the protective order is vacated, and the
case is remanded.
317
* * *
Graham v. Allis-Chalmers Mfg. Co.
41 Del.Ch. 78, 188 A.2d 125 (1963)
John P.