Tuesday, February 26, 2013

Gerdes v. Reynolds case brief

Gerdes v. Reynolds case brief summary
28 N.Y.S.2d 622

SYNOPSIS: Plaintiffs, trustees appointed in a proceeding under the Federal Bankruptcy Act, 11 U.S.C.S. § 1 et seq., sought to hold accountable defendants, officers, directors, and stockholders, who allegedly wasted and improperly applied their company's assets.

-Defendants were the officers and directors of an investment trust company.
-They were also stockholders and owned a majority of its common stock.
-Ownership of the majority of the common stock was sold, and defendants resigned their offices and directorships and elected as their successors four persons designated by the purchaser.
-Assets of the company were then wasted and improperly applied.
-Plaintiffs, trustees of the company appointed pursuant to the Federal Bankruptcy Act, 11 U.S.C.S. § 1 et seq., sought to hold accountable those who sold, bought, and aided in the transaction.

The court ruled that defendants violated their fiduciary duties and had to account to the corporation or its duly appointed trustees for all damages naturally resulting from their official misconduct.

What was to be accounted for was not proceeds of the sale of stock, but proceeds of an illegal sale of corporate offices.

-Inherent in the very nature of stock corporations as constituted by the law are the settled principles that the shares of stock are the property of the stockholders, that the stockholders may sell their shares when and to whom they please and for such price as they can get, that they may sell to buyers of whose identity and integrity and responsibility they are unaware (as is the common practice in the multitudinous sales through brokers on and off exchanges), that the purchase price paid upon such sales belongs to the sellers, and that these same rights exist even where the stockholders hold a majority of the stock and where the sellers are a group who together own and sell such a majority.

OUTCOME: The court ruled that defendants violated their fiduciary duties by illegally selling their corporate offices and thus were accountable to plaintiff trustees for the damages resulting from their official misconduct.

-Controlling shareholders may not sell their controlling stake to a corporate looter for the purpose of realizing personal gains.
-Controlling shareholders had obligation to investigate the buyer.
-Corporate directors may not relinquish control of their corporation under conditions that would leave the corporation’s assets without proper care or protection. Although the controlling shareholders of Reynolds Investment Company had no knowledge that the buyer planned to loot the corporation, the circumstances of the sale should have alerted them to this possibility. The price paid for the company grossly exceeded its market value. The company’s particular combination of holdings was unremarkable and easily duplicable. A reasonable investor could do just as well, if not better, by buying similar securities directly from the market. Furthermore, the transaction left the buyer in a position to pay for the company by selling the company’s assets. These circumstances raise a strong inference that the buyer was in fact a corporate looter. The facts compel the conclusion that the sale price included not only the value of the shares but also payment for appointment of the buyer’s designees to the board.

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