HFG Co. v. Pioneer Pub. Co., 9249.

• Citation: 162 F.2d 536
• Decision Date: 23 May 1947
• Docket Number: No. 9249.,9249.
• Parties: H F G CO. v. PIONEER PUB. CO.
• Court: United States Courts of Appeals. United States Court of Appeals (7th Circuit)

162 F.2d 536 (1947)

H F G CO. v. PIONEER PUB. CO.

No. 9249.

Circuit Court of Appeals, Seventh Circuit.

May 23, 1947.

Thomas C. McConnell, of Chicago, Ill., for appellant.

Howard Ellis, Andrew C. Hamilton, Bennitt E. Bates, all of Chicago, Ill., for appellee Pioneer Pub. Co.

Thomas A. Walpole, of Chicago, Ill., for appellees Lynn S. Snow, Frank M. Pebbles, and M. L. Walpole.

Frank S. Righeimer, of Chicago, Ill., for appellee Arthur E. Beeman.

Henry F. Tenney and George E. Howell, both of Chicago, Ill., for appellees Telfer MacArthur and Clara M. Hahn.

John L. Davidson, Jr., of Chicago, Ill., for appellee Arthur J. Howard.

William J. Matthews, of Chicago, Ill., for appellee John A. Manley.

Before MAJOR and MINTON, Circuit Judges, and LINDLEY, District Judge.

MAJOR, Circuit Judge.

This action was instituted by the plaintiff, a Delaware corporation, as a stockholder's suit to assert the rights by derivative action of Pioneer Publishing Company, an Illinois corporation, in and to certain monies alleged to have been embezzled by Telfer MacArthur, a defendant and the president of defendant corporation, and certain shares of stock alleged to have been illegally issued to said Telfer MacArthur. Jurisdiction was predicated upon diversity of citizenship with the requisite allegation as to the amount in controversy.

The appeal comes from the order of the District Court dismissing the complaint as insufficient to meet the requirements of Rule 23(b) of the Federal Rules of Civil Procedure, 28 U.S.C.A. following section 723c. The rule, so far as here material, provides:

"In an action brought to enforce a secondary right on the part of one or more shareholders * * * the complaint shall * * * aver (1) that the plaintiff was a shareholder at the time of the transaction of which he complains * * *."

The lower court in a memorandum opinion held that the plaintiff was not a "shareholder" as contemplated by this rule. The complaint alleged that plaintiff "is now and has been at all times hereinafter complained of the owner of 6538 shares of the common stock of Pioneer Publishing Company, an Illinois corporation, defendant herein." The motion to dismiss attacks this allegation as insufficient and asserts that the plaintiff "is not and never has been during the transactions complained of herein a shareholder of Pioneer Publishing Company under the laws of Illinois, the State of incorporation of the latter corporation." Plaintiff submitted an affidavit by one of its officials concerning the ownership of its shares in the defendant corporation. An affidavit was also submitted by the defendant MacArthur, showing that no stock of the defendant corporation had been issued to the plaintiff and that it had never been a shareholder of record. We think it unnecessary to relate the details of these affidavits. For the purpose of the question before us, it is conceded that the plaintiff was the sole equitable and beneficial owner of the shares described in its complaint and that it had owned such shares since long prior to the time of the grievances complained of. It is also conceded that plaintiff was not a shareholder of record of the defendant corporation and that the certificate evidencing its shares was issued to its nominee who endorsed and delivered the same to the plaintiff.

The single contested issue, therefore, is whether the equitable and beneficial owner of non-recorded shares of stock in a corporation is a "shareholder" so as to be entitled to maintain a shareholder's suit on behalf of such corporation under Rule 23(b). It is the contention of the defendants, sustained by the lower court, that the question as to who is a "shareholder" is one of substantive law to be determined by the rule of Illinois. On the other hand, it is the contention of the plaintiff that the rule is strictly procedural and that the question must be determined irrespective of local law.

That the effect to be given this rule has engendered a vast amount of contrariety of opinion is evidenced by the decisions. In Hurt v. Cotton States Fertilizer Co., et al., 5 Cir., 145 F.2d 293, 295 (certiorari denied 324 U.S. 844, 65 S.Ct. 679, 89 L.Ed. 1406), the court held that it was not necessary that the plaintiff hold the legal title to the stock but that it was sufficient if it was the owner of an equitable interest. The court stated (page 295):

"In equity, therefore, the owner of the equitable title to shares of stock is a stockholder in a fuller sense than is the owner of the naked legal title. Assuredly it is not the purpose of either the statute or the rule to afford the holder of the naked legal title to shares of stock a right of action and to deny the holder of a higher right, the equitable title, such a privilege. The protection of the law would hardly be denied to the owner of the substance, meanwhile being accorded to the holder of the shadow. We do not believe that it was the purpose of either the rule or statute to deny the process of the Court to the owner of an equitable right, title, or interest in stock, regardless of whether that right be vested or contingent."

It appears that the court considered the applicable State law and found nothing either in the rule or in the State statute which prevented an equitable owner from maintaining such a suit.

In Richardson, et al. v. Blue Grass Mining Co. et al., D.C., 6 Cir., 29 F.Supp. 658, 665, affirmed on the lower court's opinion, 127 F.2d 291, certiorari denied 317 U.S. 639, 63 S.Ct. 30, 87 L.Ed. 515, the court without reference to local law stated:

"Some authorities hold that only a stockholder of record is qualified to maintain such a derivative suit, but the weight of authority seems to be that the owner of an equitable interest in corporate stock is likewise entitled to maintain the action."

In Perrott v. United States Banking Corp., et al., D.C., 53 F.Supp. 953, upon a motion to dismiss the complaint for failure to allege that the plaintiff was a shareholder, the court ignored the State rule. It stated (page 956):

"Simply because a particular plaintiff cannot qualify as a proper party to maintain such an action does not destroy or even whittle at the cause of action. * * * The criticism that federal courts will not be dispensing the same justice that could be obtained in a state court in stockholders' derivative actions if Rule 23(b) is applied when in conflict with the state rule, ignores one of the original purposes of promulgating the rule and the evils it attempts to destroy."

In Goldstein v. Groesbeck, et al., 2 Cir., 142 F.2d 422, 154 A.L.R. 1285, the plaintiff was merely a shareholder in a corporation which owned stock in the corporation whose acts were complained of. In permitting the plaintiff to maintain its suit, the court pointed out at page 425 that Rule 23(b) "is only a scrupulous re-enactment" of Equity Rule 94, later Equity Rule 27, 28 U.S.C.A. § 723 Appendix.

In Sale v. Pittsburgh Steel Co., et al., D. C., 57 F.Supp. 283, 285, the allegations of the complaint as to ownership were quite similar to those of the instant case. The complaint alleged that plaintiff acquired the stock on certain dates and "at all times since said date has been, the owner and holder of such stock." The court held "That averment, in our judgment, meets the requirement of Rule 23(b)."

In Gallup v. Caldwell, et al., 3 Cir., 120 F.2d 90, at page 93, the court, in a situation similar to the instant one, stated:

"It is established that this plaintiff was not a registered shareholder, at the time the action was begun. The question is not merely a procedural one, such as whether an action may be maintained by the real party in interest who is not the owner of a legal title (Goodrich, Conflict of Laws, 2d Ed. 1938, 191), but the substantive one whether one who is not a shareholder of record may assert shareholder's rights either on behalf of or against the corporation. That is a question of the law of New Jersey, the state under the law of which this company was incorporated."

The court concluded that under the New Jersey law an equitable owner could maintain the action.

Mullins v. De Soto Securities Co., Inc., et al., D.C., 45 F.Supp. 871, is another case where the court held that an equitable owner of shares could maintain an action under Rule 23(b). The court was of the view that the local law was not inconsistent with the rule. Nevertheless, it stated at page 878:

"If there be doubt as to whether or not the Louisiana rule be a duplicate of the Federal Rule of Civil Procedure 23(b), under such circumstances the proper course seems to be to follow the rule laid down in Rule 23(b)."

The uncertainty attending the rule in question is further evidenced by the report of proposed amendments to the rules made June 14, 1946 by the Advisory Committee on Rules for Civil Procedure. U.S.C.A. 1947 Special Pamphlet to Title 28, §§ 721-723. The Committee, after quoting the rule, states (page 19):

"As a result of the decision in Erie R. Co. v. Tompkins, 304 U.S. 64, 58 S.Ct. 817 82 L.Ed. 1188, 114 A.L.R. 1487 (decided April 25, 1938, after this rule was promulgated by the Supreme Court, though before it took effect) a question has arisen as to whether the provision above quoted deals with a matter of substantive right or is a matter of procedure."

The Committee states the history of the rule as follows:

"Following the decision in Hawes v. Oakland 104 U.S. 450, 26 L.Ed. 827, and at the same term, the Court, to implement its decision, adopted Equity Rule 94, which contained the same provision above quoted from Rule 23 F.R.C.P. The provision in Equity Rule 94 was later embodied in Equity Rule 27, of which the present Rule 23 is substantially a copy."

The Committee, after citing and quoting from numerous cases construing the rule, states (page 22):

"The decisions here discussed show that the question is a debatable one, and that there is respectable authority for either view, with a recent trend...