Rosenfeld v. Fairchild Engine & Airplane Corp.

Froessel, J.

In a stockholder’s derivative action brought by plaintiff, an attorney, who owns 25 out of the company’s over 2,300,000 shares, he seeks to compel the return of $261,522, paid out of the corporate treasury to reimburse both sides in a proxy contest for their expenses. The Appellate Division has unanimously affirmed a judgment of an Official Referee dismissing plaintiff’s complaint on the merits, and we agree. Exhaustive opinions were written by both courts below, and it will serve no useful purpose to review the facts again.

Of the amount in controversy $106,000 were spent out of corporate funds by the old board of directors while still in office in defense of their position in said contest; $28,000 were paid to the old board by the new board after the change of management following the proxy contest, to compensate the former directors for such of the remaining expenses of their unsuccessful defense as the new board found was fair and reasonable; payment of $127,000, representing reimbursement of expenses to members of the prevailing group, was expressly ratified by a 16 to 1 majority vote of the stockholders.

The essential facts are not in dispute, and, since the determinations below are amply supported by the evidence, we are bound by the findings affirmed by the Appellate Division. The Appellate Division found that the difference between plaintiff’s group and the old board “ went deep into the policies of the company ”, and that among these Ward’s contract was one of the “ main points of contention ”. The Official Referee found that the controversy ‘ ‘ was based on an understandable difference in policy between the two groups, at the very bottom of which was the Ward employment contract ”,

By way of contrast with the findings here, in Lawyers’ Adv. Co. v. Consolidated Ry. Lighting & Refrig. Co. (187 N. Y. 395), which was an action to recover for the cost of publishing newspaper notices not authorized by the board of directors, it was expressly found that the proxy contest there involved was ‘1 by one faction in its contest with another for the control of the corporation * * * a contest for the perpetuation of their offices and control ” (p. 399). We there said by way of dicta that under such circumstances the publication of certain notices on behalf of the management faction was not a corporate expenditure which the directors had the power to authorize.

Other jurisdictions and our own lower courts have held that management may look to the corporate treasury for the reasonable expenses of soliciting proxies to defend its position in a bona fide policy contest (Peel v. London & North Western Ry. Co., [1907] 1 Ch. 5; Kadel v. Segal Lock & Hdwe. Co., N. Y. L. J., Sept. 21, 1953, p. 488, col. 4 [Sup. Ct., N. Y. Co.]; McGoldrick v. Segal, N. Y. L. J., Sept. 14, 1950, p. 461, col. 2 [Sup. Ct., N. Y. Co.]; Matter of Zickl, 73 N. Y. S. 2d 181,185; Howard v. Segal Lock & Hdwe. Co., N. Y. L. J., Feb. 13, 1953, p. 496, col. 6 [City Ct., N. Y. Co.]; Appeal Print. Co. v. Segal Lock & Hdwe. Co., N. Y. L. J., Dec. 22, 1952, p. 1563, col. 3 [City Ct., N. Y. Co.]; Steinberg v. Adams, 90 F. Supp. 604 [S. D. N. Y.]; Hand v. Missouri-Kansas Pipe Line Co., 54 F. Supp. 649 [D. Del.]; Empire So. Gas Co. v. Gray, 29 Del. Ch. 95; Hall v. Trans-Lux Daylight Picture Screen Corp., 20 Del. Ch. 78).

It should be noted that plaintiff does not argue that the aforementioned sums were fraudulently extracted from the corporation ; indeed, his counsel conceded that ‘ ‘ the charges were fair and reasonable ’ ’, but denied ‘ ‘ they were legal charges which may be reimbursed for ”. This is therefore not a case where a stockholder challenges specific items, which, on examination, the trial court may find unwarranted, excessive or otherwise improper. Had plaintiff made such objections here, the trial court would have been required to examine the items challenged.

If directors of a corporation may not in good faith incur reasonable and proper expenses in soliciting proxies in these days of giant corporations with vast numbers of stockholders, the corporate business might be seriously interfered with because of stockholder indifference and the difficulty of procuring a quorum, where there is no contest. In the event of a proxy contest, if the directors may not freely answer the challenges of outside groups and in good faith defend their actions with respect to corporate policy for the information of the stockholders, they and the corporation may be at the mercy of persons seeking to wrest control for their own purposes, so long as such persons have ample funds to conduct a proxy contest. The test is clear. When the directors act in good faith in a contest over policy, they have the right to incur reasonable and proper expenses for solicitation of proxies and in defense of their corporate policies, and are not obliged to sit idly by. The courts are entirely competent to pass upon their bona fides in any given cast/, as well as the nature of their expenditures when duly challenged.

It is also our view that the members of the so-called new group could be reimbursed by the corporation for their expenditures in this contest by affirmative vote of the stockholders. With regard to these ultimately successful contestants, as the Appellate Division below has noted, there was, of course, “ no duty * * * to set forth the facts, with corresponding obligation of the corporation to pay for such expense ”. However, where a majority of the stockholders chose — in this case by a vote of 16 to 1 — to reimburse the successful contestants for achieving the very end sought and voted for by them as owners of the corporation, we see no reason to deny the effect of their ratification nor to hold the corporate body powerless to determine how , its own moneys shall be spent.

The rule then which we adopt is simply this: In a contest over policy, as compared to a purely personal power contest, corporate directors have the right to make reasonable and proper expenditures,- subject to the scrutiny of the courts when duly challenged, from the corporate treasury for the purpose of persuading the stockholders of the correctness of their position and soliciting their support for policies which the directors believe, in all good faith, are in the best interests of the corporation. The stockholders, moreover, have the right to reimburse successful contestants for the reasonable and bona fide expenses incurred by them in any such policy contest, subject to like court scrutiny. That is not to say, however, that corporate directors can, under any circumstances, disport themselves in a proxy contest with the corporation’s moneys to an unlimited extent. Where it is established that such moneys have been spent for personal power, individual gain or private advantage, and not in the belief that such expenditures are in the best interests of the stockholders and the corporation, or where the fairness and reasonableness of the amounts allegedly expended are duly and successfully challenged, the courts ivill not hesitate to disallow them.

The judgment of the Appellate Division should be affirmed, without costs.