144 F.2d 968 (2nd Cir. 1944), 377, Lesnik v. Public Industrials Corporation

Docket Nº:377.
Citation:144 F.2d 968
Party Name:LESNIK v. PUBLIC INDUSTRIALS CORPORATION (DAVISON et al., Third-Party Defendants).
Case Date:September 07, 1944
Court:United States Courts of Appeals, Court of Appeals for the Second Circuit
 
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144 F.2d 968 (2nd Cir. 1944)

LESNIK

v.

PUBLIC INDUSTRIALS CORPORATION (DAVISON et al., Third-Party Defendants).

No. 377.

United States Court of Appeals, Second Circuit.

September 7, 1944

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R. Randolph Hicks, of New York City (Satterlee & Warfield, of New York City, on the brief), for appellant Public Industrials Corporation.

David Haar, of New York City (Guy George Gabrielson, of New York City, on the brief), for appellees.

Before L. HAND, SWAN, and CLARK, Circuit Judges.

CLARK, Circuit Judge.

This action began as a simple suit on a promissory note; but, in line with the economy of judicial effort encouraged by the new civil rules, the defendant was able, by filing counterclaims and a cross-complaint against additional parties brought into the case, to go to trial on the issue of whether it was defrauded by a conspiracy of directors of a company in which it held stock to refuse to declare dividends, thereby causing it financial ruin. Since the judge took this issue from the jury for lack of evidence to prove the allegations, this appeal raises the issue whether the original defendant did succeed in establishing a prima facie case. In addition, there are important preliminary problems of venue and jurisdiction over cited-in defendants raised by the claims of appellees herein that the new parties could not be legally compelled to appear and defend in this action.

According to the facts substantially not in dispute, defendant-appellant, Public Industrials Corporation, a Delaware corporation engaged solely in the holding of corporate securities, was reorganized as of January 15, 1938, under former Sec. 77B of the Bankruptcy Act, 11 U.S.C.A. § 207. Its unsecured debts amounted to some $21, 000; its secured debts, to some $46, 000. In all, there were four secured creditors, holding as security 1, 782 shares of the 7% cumulative preferred stock of Hightstown Rug Company, a Delaware corporation having its principal place of business in New Jersey. By the terms of the reorganization, Public Industrials' assets, which consisted of 2, 398 further shares of the Highstown preferred stock, were placed in escrow to insure ratable distribution to all creditors; payment of unsecured creditors was postponed until January

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15, 1941; and secured creditors received in exchange for outstanding evidences of indebtedness nonnegotiable 5% notes payable January 15, 1939, but extendible for one-year periods by the written consent prior to the due date of the holders of two-thirds the principal amount thereof. Since Public Industrials was not a going concern, the success of the plan and eventual payment of all creditors thus depended upon receipt of dividends from the Highstown stock and extension from year to year of the secured indebtedness.

C. Herbert Davison was president of Highstown and owner of over 80 per cent of its common stock, in which all voting powers were vested. With his attorney, Guy George Gabrielson, he also owned the balance over Public Industrials' holding of the 10, 872 outstanding shares of preferred stock. Highstown's board of directors consisted of Davison, Gabrielson, Albert L. Wolfe, a legal associate of Gabrielson, and two minority directors appointed by Public Industrials through an agreement with Davison. Although the annual statements for the year 1940, 1941, and especially 1942 showed earnings and surpluses 1 well in excess of the $76, 000 necessary to declare a dividend on the preferred stock, no such dividends were declared from 1939 through 1942. The board did not discuss the matter at the annual meetings of March 11, 1941, and June 30, 1942, due to the failure of the management to have prepared any annual statements for the preceding years; but at a meeting on July 29, 1942, in consideration of the favorable annual statement for 1941, one of the minority directors asked why a dividend should not be declared. Gabrielson answered that the management would by no means consider it. Then at a meeting on February 4, 1942, the same director seems to have moved to declare a dividend. What transpired thereafter was held inadmissible at the trial below as occurring after the date of the filing of the complaint in the present action.

Receiving no dividends from the Highstown stock, the required percentage of secured creditors of Public Industrials voted each year for three years to postpone the due date of their notes. On January 14, 1942, however, when the secured creditors were about to extend the notes for another year, Gabrielson, through a dummy, one Andrew J. Noe, entered into a contract with Equitable Building Corporation, holder of a note for $15, 883.52, or over one-third the principal amount of Public Industrials' secured indebtedness, by the terms of which Equitable agreed, in return for a check for $24, 000, to refuse to extend the time for payment of its note, due the following day, and if the note was not then paid, to sell the collateral, 472 shares of Highstown preferred. If Noe bid in the stock at the sale, Equitable was to pay the purchase price out of the $24, 000; and if the sale did not realize the full amount due Equitable on the note, Equitable was to retain the difference from the $24, 000. Any balance was to be returned to Noe. Equitable duly blocked the extension of the notes, demanded and failed to receive payment, and sold the stock at public auction to Noe for $2, 100, approximately $4.45 per share. Then on February 2, 1942, Harry Lesnik, plaintiff below and another dummy of Gabrielson and Davison, purchased from the Bank of New York for $11, 500 a $10, 000 note of Public Industrials, upon which some $14, 000 principal and interest was at that time due and which was secured by 500 shares of Highstown preferred. On February 17, 1932, Lesnik wrote Public Industrials to advise that he would sell the collateral at public auction the following week; and on February 25, 1942, he bought in the stock at the sale for $500, or $1 per share. He thereupon turned over both the note and the stock to Gabrielson. On November 30, 1942, Gabrielson and Lesnik entered into a written agreement whereby the former would return the note to Lesnik for purposes of suit to collect the balance remaining due, but which reserved all rights to the note and any balance collected in Gabrielson. Accordingly, Lesnik brought suit on the note on January 4, 1943, in the Supreme Court of the State of New York. Alleging diversity of citizenship, Public Industrials at once transferred the cause to the court below.

Public Industrials in its answer to the complaint set forth, among other things, three counterclaims. The first two were substantially similar and maintained that Lesnik, Davison, Gabrielson, and Wolfe had conspired by refusing to declare dividends on the Highstown stock when

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there were ample funds so to do, to wreck the plan of reorganization and to depreciate the value of the stock so that they could acquire Public Industrials' shares at a very low price. The third, after repeating the general allegations of conspiracy against Davison, Gabrielson, and Wolfe, went on to charge that they falsely informed Lesnik that he had power to sell the collateral received from the Bank of New York and that the resultant 'fictitious and forced public sale' had destroyed the market value of Highstown preferred, to Public Industrials' loss. As a result of these conspiracies, Public Industrials claimed damages of $400, 000.

Thereafter Public Industrials moved to bring in Davison, Gabrielson, and Wolfe as defendants to the counterclaims, under Federal Civil Rule 13(h), 28 U.S.C.A.following section 723c; and this motion was first denied by the district court and a motion for reargument was also denied. Subsequently, upon renewal of this before another judge and with most extensive affidavits (which had not been presented before), it was finally granted in a written opinion dated April 30, 1943, 51 F.Supp. 989; and Gabrielson and Wolfe were thereupon duly served. Davison, however, was not then served. After they were served, Gabrielson and Wolfe sought an order vacating the service upon them, on the ground that it was in violation of the venue requirements of Sec. 51 of the Judicial Code, 28 U.S.C.A. § 112, since they both were residents of New Jersey and Public Industrials was a Delaware corporation. This motion was denied by another district judge in a written opinion dated May 29, 1943, 51 F.Supp. 994. Then Gabrielson, Wolfe, and Lesnik moved for summary judgment on the counterclaims under Rule 56(b), asserting that the court had no jurisdiction, since decision of the counterclaims would involve delving into the internal affairs of a foreign corporation. This motion the same judge denied in a written opinion dated September 28, 1943. Trial was thereafter held before still another district judge and a jury, October 7 to 14, 1943, at the conclusion of which the court directed a verdict for plaintiff in the original action and dismissed the counterclaims of Public Industrials. Nearly three months after this judgment was entered, Public Industrials succeeded in effecting service upon Davison, whose motion to quash the service was granted by the original district judge on January 14, 1944. This appeal is taken from this order and from the judgment entered by the trial judge.

As was inevitable, the failure of Hightstown to pay dividends on its preferred stock and the refusal of Public Industrials' secured creditors to extend the due date of their notes beyond January 15, 1942, caused a complete breakdown of the plan of reorganization for Public Industrials. The latter, therefore, filed a voluntary petition in bankruptcy in the Wilmington, Delaware, court on November 15, 1943, and received a stay against the...

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