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FLANNERY BOLT CO. v. FLANNERY

June 11, 1935

FLANNERY BOLT CO.
v.
FLANNERY



The opinion of the court was delivered by: SCHOONMAKER

This is an action in equity wherein the plaintiff corporation is seeking to recover an accounting from defendant, former president and director of the plaintiff corporation, of certain corporate funds and property alleged to have been misappropriated by the defendant and converted to his own personal use; and, in addition, an assignment by the defendant to the plaintiff corporation of certain inventions developed by the defendant during his incumbency as president of the plaintiff corporation.

The case was heard on bill, answer, and proofs.

 We have made and file herewith our findings of fact and conclusions of law showing that the plaintiff corporation is entitled to the relief prayed for in the bill of complaint.

 Briefly summarized, the record shows that the defendant, from the date of the organization of the plaintiff corporation in 1926, to the latter part of June, 1933, was its president and director, and during that period owned a greater portion of its common stock and controlled and dominated a majority of the board of directors. Previous to the formation of the plaintiff corporation, the defendant was the president and director of a Delaware corporation formed in 1921 under the name of Flannery Bolt Company, in which he owned and controlled all of the capital stock. The board of directors of that company consisted of himself; his wife, Adelaide F. Flannery, his brother, James J. Flannery; and Franklin H. Allison, an employee of the defendant in that corporation and other companies in which he was interested.

 From 1921 to 1926, the defendant was the sole shareholder of the Flannery Bolt Company (1921 corporation), managed it and controlled it as though it were his own personal property, as in fact it was. In the year 1926, the defendant made an arrangement with the American Locomotive Company to join him in the business which the 1921 corporation had been conducting in the manufacture and sale of flexible stay bolts for boilers, with the understanding that the American Locomotive Company was contributing to the enterprise $1,500,000 in cash. This was accomplished by organizing a new Delaware corporation by the name of Flannery Bolt Company, the plaintiff corporation in this case, with 25,000 shares of common stock of no par value, and 15,000 shares of preferred stock of the par value of $100 per share; the American Locomotive Company subscribing and paying for this 15,000 shares of preferred stock, $1,500,000. The plaintiff corporation then bought all of the property and assets of the Flannery Bolt Company (1921 corporation), paying $1,500,400 in cash, and 25,000 shares of its non-par value common stock. This common stock of the plaintiff corporation then was allotted, 2,500 shares to the American Locomotive Company, and 22,500 shares to the defendant in this case. This preferred stock had the privilege under the by-laws of electing, and did elect, one director for the plaintiff corporation. Later, in February, 1927, an additional class of preferred stock was authorized for the plaintiff corporation, known as class B preferred stock, of which 5,000 shares were sold for cash to the amount of $500,000. This class B preferred stock had the right to elect one director for the plaintiff corporation. The defendant, by reason of his ownership of 22,500 shares of the 25,000 shares of common stock, controlled the election of the balance of the directors of the plaintiff corporation, and elected to those positions, himself; his wife, Adelaide F. Flannery; his brother, James J. Flannery, Jr.; and his employee, Franklin H. Allison, who was also an employee of the defendant in numerous other Flannery enterprises. Through this directorate, the defendant dominated and controlled all the actions of the plaintiff corporation; in fact, he operated the plaintiff corporation, handled its funds and property as his own, drew large sums of money for his own personal use beyond his regular salary allowance, and acted, with reference to salaries and moneys of the plaintiff corporation, as though the entire corporation was his personal property; and this, though others had trusted to the enterprise, $2,000,000.

 We regard the conduct of the defendant as improper in violating the trust imposed upon him as president and director of the plaintiff corporation. The fiduciary character of the relationship of the defendant as president and director of the plaintiff corporation is so well established in law as hardly to need the citation of any authority. We content ourselves with a statement of the rule laid down in Thompson, Corporations, vol. 2, § 1321, as follows: "The peculiar trust relation held by a director does not admit of his creating any relation between himself and the trust property which will make his interest antagonistic to that of his beneficiary. The relation of a director to his corporation is fiduciary, and the law forbids him from making a contract in which his private interest may conflict with the interest of the corporation. The directors in all such cases occupy a position of trust and act in a fiduciary capacity. In all the contracts they make they represent the stockholders and not themselves; and in all their official actions they are to consider, not their private interests, but that of the stockholders, whose property they manage and control. This rule is so strict and so rigidly enforced that the law will not permit these officials to subject themselves to any temptations to serve their own interest in preference to the interest of the stockholders."

 Now, as we judge the matters complained of, in the light of this rule, there can be no question that the plaintiff corporation is entitled to the relief prayed for; and we take up, and consider these matters, one by one.

 In the first instance, there is the sum of $137,400 representing moneys of the plaintiff corporation, which the defendant misappropriated in the form of personal withdrawals to himself through cheques of the corporation signed by himself as president, and Allison as treasurer, drawn for his own personal affairs. There is no evidence in the case that any corporate purpose was served by these withdrawals. The only justification which the defendant offers as to these items is that they were personal advances and loans to himself. Certainly the president of a corporation cannot lawfully draw corporate funds for his own personal use. It does not appear from the evidence that any other directors or parties in interest were consulted by the defendant or acted in the matter of these loans and advances. So it is clearly a case of the drawing of corporate funds for his own personal use. This transaction we regard as unlawful, per se, because the defendant participated in these transactions, both on the side of the corporation as well as for himself. A cheque for these amounts, countersigned by the treasurer, can give no validity to these transactions, for it is clearly held that a court of equity will always look through any device which corporate directors may use to conceal their own personal interests in dealing with corporate property. Wardell v. Union Pac. Railroad Company, 103 U.S. 651, 26 L. Ed. 509. In fact, in regard to these withdrawals, there is no pretense of any corporate action; nor any authority for these withdrawals can be found or any minutes, either of the directors or of the stockholders of the plaintiff corporation. Witness Truschel, bookkeeper of the plaintiff corporation, testified that he prepared these cheques largely at the behest of the defendant, who, in several instances, informed Truschel that he was withdrawing the money as an advance of salary; and yet, when at the end of the month, the defendant collected his salary in full, the bookkeeper had no alternative than to alter the record and show that these amounts were loans or advances to the defendant. Witness Roney, the individual bookkeeper of the defendant, testified that he used these moneys so advanced to pay defendant's personal obligations and expenditures indiscriminately without regard to the source of the funds. In addition to all that, the witness Truschel testified that the defendant directed Truschel to concel his withdrawals from the directors and stockholders. In the balance sheet of the plaintiff corporation, these withdrawals were concealed under accounts receivable, and in the treasurer's reports of receipts and disbursements, they appeared under some deceptive heading, or "raw materials."

 The next item of complaint has to do with $69,400 covering corporate cheques made by the defendant as president of the plaintiff corporation and countersigned by Allison as treasurer, payable to the order of Flannery Manufacturing Company, a corporation owned and controlled exclusively by the defendant. There is no dispute over the fact that these cheques were issued, and it does not appear that any corporate purpose was served by these payments. The supporting memorandum for each voucher contains the statement: "Advance (F.M. Co.)." The defendant's explanation of these withdrawals is not satisfactory, and in our opinion does not justify the expenditure. His explanation and defense for these and other withdrawals is that he spent these moneys for the benefit of the plaintiff. He declares that among other amounts he spent the sum of $77,558.71 for operating and other expenses of the Flannery Manufacturing Company for the making of certain experimental investigations for the plaintiff corporation.

 However, we are not satisfied that this is the true explanation. At any rate, no authority for these withdrawals appears either in the minutes of the board of directors or the stockholders. In making these advances, the defendant certainly acted in his own behalf and not in behalf of the plaintiff corporation of which he was president and director. As a trustee and fiduciary of the plaintiff corporation, he cannot lawfully stand on both sides of this transaction.

 The next item complained of deals with $34,244.76, representing funds of the plaintiff corporation received and converted by the defendant in connection with the sale and exchange of securities belonging to the plaintiff corporation. In dealing with securities belonging to the plaintiff corporation, the defendant did not deal in the name of the corporation. His dealings were in the brokerage account in his own name at a Pittsburgh broker's. There may be a question whether there is any legal justification for the defendant's dealing in securities for the plaintiff corporation at all, but be that as it may, even if he did deal without proper corporate authority, he is chargeable with any profits that arose from any of these transactions. As to this item of $34,244.76, the fact of the earning of this item of profits seems to be conceded by the defendant's answer, and is further confirmed by Defendant's Exhibits A, B, C, and D, except the item of $7,254.45 arising out of the purchase of Kelsey-Hays Wheel Corporation common stock. The evidence shows that on October 27, 1928, the plaintiff corporation paid the defendant $22,000 in cash, together with $35,000 face amount of Rio Grande De Dul bonds, which he then pledged with the Oakland Savingls & Trust Company. The sums of $32,000 and $22,000 thus obtained were used by defendant to purchase, in his personal brokerage account, one thousand shares of Kelsey-Hays Wheel Corporation common stock. This stock was purchased October 16, 1928, by defendant for $50,000, and the difference between the purchase price and the amount received by defendant as aforesaid retained by him. The defendant never actually delivered this stock to the plaintiff corporation. Subsequently the pledged Rio Grande bonds, upon which defendant borrowed $32,000, were sold for the sum of $35,754.45, thus leaving a profit of $3754.45, which the defendant appropriated to his own use, leaving the amount that the plaintiff corporation is entitled to under this transaction, $7254.45.

 We now come to the sum of $4,125 representing dividends and distributions on securities belonging to the plaintiff, which were held by the defendant in his own account, and on which he received dividends and distributions which he treated as his own. There is no explanation by the defendant for such course of conduct; he is clearly accountable for this item.

 The next claim arises out of the item of $36,775 representing the cost of 1,000 shares of Great Northern Ore certificates, the property of the plaintiff corporation, which were sold by the defendant without authority and without any accounting of the proceeds to the plaintiff corporation. The defendant does not deny that the certificates were the property of the plaintiff corporation, and that they were sold by the defendant, but at a loss. In our view of this transaction, the dealing ...


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