The appeals in the above entitled cases were taken from eight decrees dated January 8, 1915. Four of these decrees were passed by the Circuit Court of Baltimore City, and four by Circuit Court No. 2 of Baltimore City. The appeals involve: First, questions arising between life-tenants and *Page 19 remaindermen over certain dividends declared by the Northern Central Railway Company; and secondly, questions of apportionment of such dividends between life-tenant and remaindermen as may be determined to be income. The determination of the questions involved can be readily reached by the application, to the facts of each particular case, of principles which appear to be well settled in this State. The amounts involved are very large, and the decision which we make on these appeals will be of great importance to Trustees and others holding stock of the Northern Central Railway Company and interested in the dividends which form the subject of this controversy. As the decision of each case depends upon the same general principles, all the cases will be disposed of in one opinion to be filed in No. 56 — the case of Safe Deposit andTrust Company of Baltimore, Trustee, v. Mary V. Miller, et al.
A statement of what we regard as the controlling and determining facts upon which the main questions in the case depend will now be made:
The Northern Central Railway Company is a corporation under the laws of Maryland and Pennsylvania, operating a line of railroad from Baltimore, Md., to Sunbury, Pa., with a number of branches, and has for many years been physically connected with the lines of the Pennsylvania Railroad Company. Prior to 1900 the Pennsylvania Railroad and its subsidiaries acquired approximately one-half of the stock of the Northern Central Railway, and in 1906 acquired an actual majority of said stock. For many years there had been a controversy or difference of opinion between the Pennsylvania Railroad and the minority stockholders of the Northern Central Railway, based upon the contention of the minority stockholders, among others, that too large a proportion of the real earnings of the Northern Central Railway were withheld from dividend distributions, and with the accounting methods or principle by which the earnings of the Northern Central Railway were ascertained. *Page 20
The controversy resulted in 1909 in the appointment of a committee to consider what was described as permanent operating relations between the Pennsylvania Railroad and the Northern Central Railway, and intended to insure to the stockholders a fixed, but larger income return both on account of past and of future earnings. After prolonged negotiations a settlement was reached which provided: First, for a lease of the Northern Central Railway to the Pennsylvania Railroad at an annual rent, over and above all costs of operation and maintenance, and available for distribution as dividends to the stockholders of the Northern Central Railway of $2,166,360.00, this amount being an increase over the dividends paid annually for the preceding ten years of $618,964.00; second, the declaration of a stock dividend of 40%, amounting to $7,734,050.00 and a cash dividend of 10% amounting to $1,934,250.00.
At a meeting of the stockholders of the Northern Central Railway held on November 2, 1910, the settlement was approved, and the lease was authorized and the capital stock of the company increased by an amount sufficient to provide for the stock dividend, and the dividends were approved. The resolutions of this meeting recited that the question of the proposed increase of the capital stock of the company of 154,741 shares of the par value of fifty dollars each, over and above the 368,851 shares of the par value of fifty dollars each, then issued and outstanding, and the issuance thereof having been, pursuant to resolution of the board of directors and after sixty days' notice given and published as required by law, submitted to the meeting for the consent and authority of the stockholders, it was
"Resolved, That the consent and authority of the stockholders of this company be, and they are hereby, given to the proposed increase of said company's capital stock of one hundred and fifty-four thousand, seven hundred and forty-one (154,741) shares, of the par value of fifty (50) dollars each, over and above the three hundred and eighty-six thousand, eight hundred *Page 21 and fifty-one (386,851) shares, of the par value of fifty (50) dollars each, now issued and outstanding, and the issuance and disposition of said increase primarily for the purpose mentioned and prescribed in the resolution of the Board of Directors of 14th July, 1910, viz: as and for a stock dividend upon the company's present outstanding capital stock, representative of and based on expenditures for additions and betterments of the company's property made from time to time out of its surplus earnings to a larger amount in the aggregate, and which might otherwise have been available for and distributable as dividends among its stockholders, if the Directors had so determined, etc."
The report of the board of directors of the company for the year 1910, reporting the capitalization of the extraordinary expenditures out of income and the extraordinary expenditure fund is here transcribed:
"During the year the capital accounts of your company were increased $6,638,155.77, distributed as between Cost of Road, $6,057,252.02, and Cost of Equipment, $580,903.75, representing a portion of expenditures for new construction, equipment and real estate during the ten years ended December 31, 1909, heretofore expended out of surplus income, and which have not been heretofore entered in your capital accounts. This action was taken to place upon your books the cost of additions and betterments, which were, in the judgment of the Board, properly considered a capital investment, and also, with other changes, to conform to the uniform accounting regulations and new form of General Balance Sheet promulgated by the Interstate Commerce Commission, and the State of Maryland."
The controversies between the minority stockholders and the Northern Central Railway Company, above referred to, had been of long standing. The character of the controversy *Page 22 and the consideration for the settlement are shown in the statement of the claim made on behalf of the minority stockholders. In some instances these claims were made as claims of right against the railroad company, whether the lease was made or not, and in part were contingent upon the execution of the lease. The settlement that was made included the execution of the lease, and the issue of the stock dividend as inseparable parts of a single transaction.
The claims made by the stockholders were as follows:
1. That the Northern Central Railway had an earning capacity far in excess of the amount shown by the company's statements, and in excess of the amount distributed as dividends, and the stockholders were entitled as a matter of right to an increase in the dividend.
2. That this large earning capacity had existed for many years; that a good portion of the earnings of the company had been diverted to capital purposes through the Extraordinary Expenditure Fund, and also through the charge of capital items directly to income or to expense of operation.
3. For distribution of the increase in the sales value of the securities over the book value.
For the distribution of the surplus of the Union Railroad Company.
For the increase in the value of the Insurance Fund.
By a small minority of the stockholders the validity of the sale to the Pennsylvania Railroad of part of the stock of the Union Railroad was also questioned.
The amounts involved in the claims or contentions of the various parties were accurately ascertained by expert examination, but the settlement was not based upon any exact agreement between the parties as to the amounts to which the stockholders might be entitled.
The fluctuating market value of the stock of the Northern Central Railway Company between the years 1900 and 1914 is shown by the following table: *Page 23
Years. High. Low.Since the payment of the extraordinary dividend and the execution of the loan the value of the stock has varied between $82 and $85 per share.1900 ................. 100 82 1/2 1901 ................. 106 1/2 88 1/2 1902 ................. 125 1/4 104 1903 ................. 118 84 1/2 1904 ................. 109 1/2 71 1905 ................. 110 3/4 99 1906 ................. 111 1/4 97 1907 ................. 97 78 1/2 1908 ................. 102 80 1909 ................. 121 1/2 100 1910 ................. 132 115 1911 ................. 130 3/4 121 1912 ................. 130 121 1913 ................. 123 106 1/2 1914 ................. 129 1/2 85
Owing to threatened litigation it was made one of the terms of the agreement between the Northern Central Railway Company and the Pennsylvania Railroad that the latter railroad should not be obliged to execute the lease until so advised by counsel, but that the lease when executed should take effect as of January 1, 1911. The lease was actually executed on July 29, 1914. About this time there was formally declared and issued the dividends provided for in the settlement between the company and its stockholders, that is to say: First, a stock dividend of 40%; second, a cash dividend of 10%. The aggregate value of these dividends is:
Par. Value. Cash Value.
40% ............ $7,734,050.00 $13,147,885.00
10% ............ 1,934,250.00 1,934,250.00
There was paid at this time an extraordinary dividend of 8% on the capital stock of the company as increased by the *Page 24
issue of the stock dividend. This latter dividend, while in form a dividend of 8% on the capital stock plus the 40% increase, is in fact a dividend of 28% upon the 40% stock dividend alone, said dividend arising as follows:
During the interval between the authorization and the execution of the lease, that is approximately from January 1, 1911, to July 1, 1914, the Northern Central Railway was operated as theretofore, without respect to the lease. There was annually paid to the stockholders a dividend of 8% on the original 100%, but not on the 40% increase. The annual rent reserved by the lease, however, exceeded this dividend by the sum of $618,964, or 8% annually upon the amount of the 40% stock dividend. After the execution of the lease and in the adjustment of the accounts between the lessor and lessee companies for the period intervening between January 1, 1911, and July 1, 1914, the dividends so paid on the original 100% to the stockholders were treated as if it had been a part of the rent paid by the Pennsylvania Railroad, lessee, to the Northern Central Railway, and distributed by the latter company to its stockholders and as a credit on said rent. This left the lessee in arrears for so much of the rent as was equal to a dividend of 8% on the 40% stock dividend, or for seven semi-annual installments from January 1, 1911, to July 1, 1914, at 4% each, or a 28% dividend on the increase or stock dividend, and this dividend was the proceeds of the liquidation of these arrears.
At a meeting of the Board of Directors of the Northern Central Railway Company held December 11, 1906, the following resolution declaring a stock dividend was passed:
"Resolved, That, to represent a portion of the surplus profits of the company hitherto expended in betterments to its property, there be declared an extra dividend of 6 25/100 Dollars upon each share of the present capital stock as registered on the books of the company at 3 P.M., December 31st, 1906, the said extra dividend to be payable on and after January 15th, 1907, in the stock of the company at its par *Page 25 value of Fifty Dollars per share, the certificates for the same to be dated January 1st, 1907, and to be entitled to participate in any dividends that may be declared after said date, scrip to be issued for any fraction of a share, redeemable in the stock of the company, when presented in sums of Fifty Dollars or multiples thereof, under such regulations as the Board may prescribe."
Under the Public Service Commission law of the State it was necessary to secure the approval of the Public Service Commission to the settlement, terms and conditions of the lease above mentioned. Accordingly the Northern Central Railway Company on the 5th day of December, 1910, filed a petition with the Commission asking it to approve the proposed lease of its railway, property and franchises, to the Pennylvania Railroad Company on the terms and conditions set out in the lease, a copy of which was filed with the petition, and also asking the Commission to pass an order — "authorizing said Railway Company to issue capital stock, that is to say, one hundred and fifty-four thousand, seven hundred and forty-one (154,741) shares of the par value of fifty ($50) dollars per share, to be usedprimarily for the purpose of discharging said company'sobligation to its stockholders on account of net earnings of saidcompany heretofore applied in betterments and improvements orinvested in the stocks and bonds of other companies and now heldas assets in the treasury of said railway company."
The Pennsylvania Railroad Company also filed its petition asking that the lease be approved by the Commission.
The petitions of the two companies were resisted before the Commission, and, after a full hearing, the objections were overruled, and on the 2nd day of May, 1911, the Public Service Commission of Maryland passed the following order:
"1. That the proposed lease by the Northern Central Railway Company of its railway, property and franchises to the Pennsylvania Railroad Company, on *Page 26 the conditions, and in the form shown in these proceedings (being Petitioner's Exhibit K); filed with the petition of the said railway company, be, and the same hereby is, approved by this commission.
"2. That the said Northern Central Railway Company be, and hereby is, authorized to issue additional capital stock as follows, that is to say: One hundred and fifty-four thousand, seven hundred and forty-one (154,741) shares, of the par value of Fifty ($50) Dollars per share, to be used for the purpose of discharging said company's obligation to its stockholders ascertained and established as aforesaid on account of net earnings of said company heretofore applied in betterments or improvements or invested in the stocks and bonds of other companies and now held as assets in the treasury of said railway company, the commission being of the opinion that the use of the capital to be secured by the issue of such stock is reasonably required for said purpose of said railroad corporation."
On July 14, 1914, after the approval of the lease by the Public Service Commission, the Board of Directors of the Northern Central Railway formally declared the stock and cash dividends referred to in the negotiations which led to the execution of the lease. In the meantime the Northern Central Railway Company paid regularly the 8% on its outstanding stock, and in the adjustment of the accounts between the companies these dividends were treated as if they consisted of rent paid under the lease and distributed as dividends. The lease, when executed, became effective as of January 1, 1911. This left the Pennsylvania Railroad Company, the lessee, in arrears for three years for so much of the rent as equalled 8% on the 40% stock dividend. On July 27, 1914, the lessee paid these arrears, that is to say, three and one-half years at 8% on the 40% stock dividend, or in other words, seven semi-annual dividends. *Page 27
The surplus of the Northern Central Railway Company on December 13, 1910, as shown by its books,
was ............................................ $3,066,389.18
To this was added income expended in betterments
and restored ............................... 6,638,155.77
______________
Total .................................... $9,704,544.95
Less an adjustment ....................... 47,153.72
______________
$9,657,391.23
To this amount the stock and cash dividends declared July 14, 1914, were charged. The four dividends declared by the railway company, under the circumstances stated are:
1. The stock dividends of 12 1/2% declared December 11, 1906.
2. The cash dividend of 8% declared July 10, 1914.
3. The cash dividend of 10% declared July 14, 1914.
4. The stock dividend of 40% declared July 14, 1914.
There can be no doubt, we think, that the stock dividend of 12 1/2% and the two cash dividends of 8% and 10% respectively are to be treated as income. This is in effect a consessum in the case. They are based upon earnings of the company. The real contention in the case arises over the 40% stock dividend. That dividend was intended to represent surplus of the company to which its stockholders were entitled.
In the brief of the counsel for the Safe Deposit and Trust Company two propositions with respect to this dividend were urged upon the Court: First, that it represents corpus, in that it is a distribution of the rent received for the transfer of the leasehold interest of the entire property of the company; and secondly, that the dividend is to a large extent not based upon, or representative of earnings. These propositions were urged with great earnestness and ability in the oral argument. It was contended that the books and accounts of the company extending over a number of years *Page 28 showed that many of the items represented in the dividend werecorpus. On the other hand, the counsel for the life tenants contended in their brief and argument that the accumulated earnings shown by the company's books, and which are represented by the dividend should be augmented by items and additions improperly excluded as income. Under the circumstances the Court is not required to enter upon an examination and revision of the accounts of the railway company, but will follow the precedent established in Quinn v. The Safe Deposit and Trust Company,93 Md. 285, and in the Atlantic Coast Line Dividend Cases,102 Md. 73, and hold the declarations of the company and its stockholders that the dividend represents earnings or income binding upon all parties to these appeals. In The Atlantic CoastLine Dividend Cases, supra, the Court was asked to examine the accounts of the company and determine, contrary to the resolutions of the Board of Directors of the Railway Company, whether the dividends represented corpus or income. This the Court declined to do, saying that "it is well settled in this State, since the adjudication in Thomas v. Gregg, 78 Md. 545, and Quinn v. The Safe Deposit and Trust Company, 93 Md. 285, that there are cases where stock dividends, such as the one now under consideration, should be held to be income and not capital. The determination of the question depending `upon the substance and intent of the action of the corporation as manifested by its vote or resolution.'"
Our conclusion, based upon the action of the directors and stockholders of the company, is that the stock dividend of 40%, like the other dividends in the case, is income.
The next question is: How are these dividends to be apportioned between the life tenants and remaindermen? The rule of apportionment is well established in this State by the cases ofThomas v. Gregg, 78 Md. 545; Quinn v. Safe Deposit andTrust Company, 93 Md. 285; Atlantic Coast Line Dividend Cases,supra; Coudon v. Updegraf, 117 Md. 71; Ex parte Humbird,114 Md. 627, and Foard v. Safe Deposit and Trust Company,122 Md. 476. In Thomas v. *Page 29 Gregg, supra, it was held that a stock dividend representing earnings devoted to betterments will be apportioned between life tenants and remaindermen where earnings accruing during the life estate are included in the income; and in Quinn v. SafeDeposit and Trust Company, supra, it was held that a cash dividend goes to the life tenant without regard to the time when the earnings or income accrued. Applying the rule laid down inThomas v. Gregg, supra, the apportionment of the stock dividends must be made as follows:
1. As to the 12 1/2% stock dividend declared on December 11, 1906. Such part of the earnings as may be represented in that dividend which accrued in the life time of the settlor must be treated as corpus, and if such earnings, or any part thereof have been distributed to life tenants they must be accounted for in the distribution to be hereafter made in these cases.
2. As to the 40% stock dividend declared July 14, 1914. The same rule of apportionment must be applied to this dividend. The earnings which it represents are shown by the record, and were accumulated "during the ten years ended December 31, 1909," as stated in the report of the directors to the stockholders for the year 1910. It may be determined by agreement, or by testimony what part of these accumulations accrued in the life time of any particular testator. Such part would constitute corpus, and the balance distributed to the life tenants. It ought not to be difficult to reach a fair and equitable apportionment under this rule of the total earnings for the period named.
3. As to the two cash dividends. The distribution of these dividends are governed by the rule laid down in Quinn v. SafeDeposit and Trust Company, supra, and go to the life tenants. "As between successive owners of a share, the dividend belongs to him who is the owner at the time it is declared; and this is true although there is a future day of payment. Such is the rule also when there are successive interests in the same share, as in the case of life tenant and *Page 30 remainderman; there will be no apportionment when the life tenancy expires between dividend days." France on Principles ofCorporation Law, 280.
The stock of the Northern Central Railway Company, as shown by the figures given above, had for some years prior to the lease a fluctuating market value. Upon the declaration of the stock dividend the market value of the stock declined from $130 per share to $85. The position is taken by the trustee that in the adjustment of the rights between the life tenants and remaindermen the excess market value over the par value at the date on which the dividend was declared should be credited tocorpus. This rule has not been adopted in this State, and would in our opinion not be just to the life tenant, although there is authority to support it in other jurisdictions. Many factors enter into the value of the stock of a corporation. The retention by the company of millions of dollars which should be distributed to its stockholders gives market value to the stock. The earning capacity of a corporation contributes to market value, and this capacity in turn is affected by many things. The general conditions of trade, available working capital, equipment, efficiency and economy, reflected in management, and many other considerations. But stock dividends are not based upon the market value of the stock; but upon accumulated earnings of the company. In the declaration of such dividends the market value of the stock is not considered. The dividend represents the stockholder's proportion of the earnings of the company awarded to him by its authority. Such proportion of the earning represented by the dividend as accrued during the life tenancy belongs to the life tenant. That proportion is his property, and no part of its value should be taken from him and given to another. If it declines in value or becomes valueless he must bear the loss; if it appreciates in value it is an advantage to which he is justly entitled. In the Atlantic Coast Line Cases,supra, the 20% stock dividend, which formed the subject of the litigation, was declared by a resolution of the Board of Directors on November 15, 1904. *Page 31 The par value of the stock was $100 per share. The record in that case showed that in November, 1904, the stock was worth about $150 per share. After the payment of the extra dividend it was worth about $120 per share; and on March 3, 1905, it was worth $140 per share. In the briefs filed in that case it was stated that the par value of the 20% stock dividend was $7,300,000.00, and that the market value was $10,950,000.00. The Court held the dividend to be income, and decreed that the certificates therefor should be transferred to life tenants, notwithstanding the large excess in market value over the par value of the stock.
In all the cases involving dividends which have come before this Court it has been uniformly held that if such dividends represented earnings accruing during the life tenancy, they pass to the life tenant, but if they represent in part earnings accrued during the life tenancy, the dividend should be apportioned, and that the proportion of stock which represented earnings during the life tenancy goes to the life tenant, and the part which accrued before the creation of the trust constitutescorpus. This method of apportionment was declared in Thomas v. Gregg, supra, to be "an equitable one."
We do not deem it necessary to prolong this opinion by a discussion of the separate cases. The accounts in each case may be readily stated in conformity with the general principles herein laid down to be applicable to all the cases. As each decree properly held the cash dividends constituted income but erroneously held that the 40% stock dividend to be corpus, all the decrees appealed from must be reversed in part and affirmed in part.
The decree in each case is reversed in part and affirmed inpart, and the cause in each case remanded, the costs in eachappeal to be paid by the Safe Deposit and Trust Company, Trustee,out of funds belonging to each trust estate involved in eachappeal. *Page 32