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STOCKHOLDERS COMM. FOR BETTER MGMT. OF ERIE TECH.

November 30, 1965

STOCKHOLDERS COMMITTEE FOR BETTER MANAGEMENT OF ERIE TECHNOLOGICAL PRODUCTS, INC., et al., Plaintiffs,
v.
ERIE TECHNOLOGICAL PRODUCTS, INC., et al., Defendants



The opinion of the court was delivered by: WEBER

 This diversity stockholders' action involves the question of the extent to which the directors and majority shareholders of a Pennsylvania corporation may legally diminish the right of cumulative voting. Plaintiffs are four shareholders of defendant corporation who bring this action on their own behalf and also as a representative action on behalf of other minority shareholders whose proxies they held at the last annual meeting. Defendants are the corporation and three of its Directors who are alleged to represent a majority group of the shareholders because of the beneficial ownership of a majority of the outstanding shares by them and persons related to them.

 The matter is presently before the court on defendants' Motion for Summary Judgment on all counts of the Complaint, and upon Plaintiffs' Cross-Motion for Partial Summary Judgment as to certain counts. From the record, including exhibits, affidavits, and depositions of the Plaintiffs taken by Defendant, the court is of the opinion that there are no genuine disputes as to any material facts and that the entire matter is ripe for full disposition by Summary Judgment.

 Prior to 1951 defendant corporation was a closely held corporation, the shares of which were held largely by members of the family of its founders. In 1951 the corporation "went public" under the provisions of the regulations of the Federal Securities and Exchange Commission, and since that time a substantial portion of its common stock was sold to the general public, which now includes the plaintiffs. The stock is not listed for trading on any public stock exchange. At the present time a majority of the outstanding shares are owned by the officers and directors of the corporation or persons related to them.

 Prior to 1965 the By-laws of the corporation provided for a Board of Directors of no less than five nor more than nine directors, which number was to be set annually by the shareholders. The By-laws also provided that they could be amended by the Board of Directors. From 1953 to 1961 the corporation had not less than six directors, and since 1961 not less than seven.

 Plaintiffs in 1964 communicated with management and expressed their desire to participate in the affairs of the company. They sought representation on the Board of Directors. They at that time owned 23,431 shares out of a total of 895,524 shares outstanding. At the 1964 annual meeting they held about 60,000 proxies, but they withdrew their candidate when it was obvious that they could not elect one director. The plaintiffs' communications with management continued.

 At the meeting of the Board of Directors on February 1, 1965 the By-laws of the corporation were amended to provide for a Board of Directors of not less than six nor more than nine directors, divided into annual classes of not less than two nor more than three, the number to be determined from time to time by the Board of Directors. At this time a resolution was passed providing that at the annual meeting of shareholders of May 3, 1965, there should be elected two directors for a three year term, two directors for a two year term, and three directors for a one year term.

 A proxy solicitation contest followed. The Notice of Annual Meeting, issued March 30, 1965, listed for shareholder action the ratification of the aforesaid By-law amendment, and called for the election of directors, two for three year terms, two for two year terms, and three for a one year term, in accordance with the prior resolution.

 At the annual meeting the Plaintiffs spoke in opposition to the Amendment, but it was ratified by a vote of 687,438 to 158,222. In the voting for the first two classes of directors, in which two were to be elected, the two leading candidates received 707,999 votes each, while plaintiffs' candidate received 276,864. It thus appeared that plaintiffs' voting strength was 138,432 shares out of a total of 846,431 voting, enough to have elected one of seven directors. Thus, while the plaintiffs might have placed one representative on the Board of Directors under its former make-up of seven members, they were unable to do so under the new composition of the board.

 Plaintiffs have pleaded their cause of action in four counts summarized as follows:

 I. That the individual defendants, Fryling, as directors, were motivated by personal interests of themselves and their family group as owners of a majority stock interest, and acted pursuant to that interest to prevent the election of plaintiffs' representative to the Board of Directors by diminishing the cumulative voting power of the stock.

 II. That the actions taken by the defendant corporation and the results were in violation of constitutional and statutory standards, or are illegal as contrary to public policy by reason of the purpose for which they were taken.

 III. That defendant directors are guilty of misrepresentations in the proxy solicitation compaign.

 IV. That defendants as directors and majority stockholders violated a fiduciary duty to protect the interests of minority shareholders in the dilution of the strength of the cumulative voting power.

 The right of cumulative voting is of statutory origin; it was unknown at common law. Pennsylvania, along with a few other states, has it set forth in its state constitution:

 
Art. 16 § 4. "In all elections for directors or managers of a corporation each member or shareholder may cast the whole number of his votes for one candidate, or distribute them upon two or more candidates, as he may prefer." Purdon's Penna. Statutes: Constitution Art. 16, § 4, P.S.

 Applicable sections of the Pennsylvania Business Corporation Law are as follows:

 
15 P.S. § 2852-401. Board of directors.
 
"The business and affairs of every business corporation shall be managed by a board of at ...

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