296 U.S. 140 (1935), 26, McCandless v. Furlaud

Docket Nº:No. 26
Citation:296 U.S. 140, 56 S.Ct. 41, 80 L.Ed. 121
Party Name:McCandless v. Furlaud
Case Date:November 11, 1935
Court:United States Supreme Court

Page 140

296 U.S. 140 (1935)

56 S.Ct. 41, 80 L.Ed. 121




No. 26

United States Supreme Court

Nov. 11, 1935

Argued October 21, 22, 1935




1. Promoters of a corporation who deal with it for their profit oppressively or in violation of statute are chargeable as trustees. P. 156.

2. The extent to which approval of all the shareholders will relieve promoters of this liability depends upon the nature of the wrong and the interests affected. P. 157.

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3. Promoters formed in Pennsylvania a corporation of low capitalization and bought all of its shares. Having full control, and acting with other agencies of their own, they greatly increased the capital stock, subscribed for part of it, and made two contracts with the corporation. By one of these, the company was to buy land upon which the promoters had acquired options, and to pay for it partly in cash and partly in bonds, with a block of the new stock thrown in as a bonus. The bonds were to be part of a very large issue of bonds and notes, to be secured by mortgage of the land when the corporation got title. By the other contract, the corporation agreed to sell to the promoters the rest of the bonds and all of the notes at prices stated. They caused the bond and note issues to be offered to the public upon false representations grossly exaggerating the value of the land and calculated to mislead buyers to believe that the proceeds of the issue would all be used to buy the land for the company and to supply it with working capital. The agreements with the corporation were consummated, in effect, with moneys derived from subscriptions thus obtained for the bonds, the difficulty of taking up the options, vesting title in the corporation and making and recording its mortgage before cashing in the subscriptions being solved by one-day credits obtained from bankers, which were strictly limited and guarded to this one purpose, and which were promptly satisfied from part of the bond proceeds. The rest of the bonds, all of the notes, and the two blocks of new shares the promoters sold to the public. The result of the scheme was that the corporation owned, besides a comparatively small amount of working capital, only the land, worth less than the option price and saddled with liens securing the bonds and notes greatly exceeding its value, and much of its stock had been issued with nothing back of it, so that at the inception of its career, the corporation was actually or virtually insolvent, whereas the promoters, by their sales of the securities as their own, had reaped large profits. Soon afterwards, the company was in the hands of a receiver.


(1) That the effect of these dealings with the corporation was, at the time of the conveyance, to put in jeopardy the interests of bondholders and noteholders by a diversion of the proceeds that would make their mortgage worthless; it was not within the power of the shareholders, who were also the promoters, to legalize this waste to the detriment of others. Pp. 158-160.

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(2) The acts of the promoters also violated Art. 16, § 7, of the Pennsylvania Constitution and Purdon's Pennsylvania Statutes, Title 15, § 131, forbidding corporations to issue stocks or bonds except for money, labor or property actually received, and declaring all fictitious increases void. This prohibition may not be set aside by shareholders to the prejudice of creditors or other shareholders, present or prospective. P. 161.

(3) Assuming that the corporation itself at the instance of new shareholders, could not disaffirm the fraud and seek equitable relief, its receiver is not so limited. He holds the assets to administer as a trust, and may require the promoters to account for the moneys fraudulently diverted to the prejudice of creditors. P. 160.

(4) Old Dominion Copper Co. v. Lewisohn, 210 U.S. 206, distinguished. P. 157.

(5) The liability of the promoters as trustees would exist even if their wrongful acts had not rendered the corporation literally insolvent at the beginning. P. 163.

(6) The promoters are liable to the receiver for the proceeds of the stock sales as well as the proceeds of the sales of bonds and notes. P. 164.

(7) In view of the initial fraud of the promoters and of evidence tending to prove that other parties to the suit to whom the promoters sold stock had guilty knowledge, the burden of proving bona fide purchase rested upon those parties as well as upon the promoters. P. 165.

(8) The promoters are liable personally for the wrongs committed through their corporate agencies. P. 165.

(9) The defendants may be credited with any legitimate expenses. P. 165.

(10) That defendants may be liable to purchasers of the securities in actions for deceit is not a reason for denying to the receiver a recovery of the illicit profits. P. 166.

4. Cost, in and of itself, is evidence of value, especially where there is no market value. P. 158.

5. In a suit to hold promoters of a corporation as trustees of funds realized by them from securities of the corporation taken in exchange for land upon which they were secured by mortgage, there was evidence that the land was worth no more than its cost to the promoters, and that the securities had been sold to the public upon fraudulent appraisals of the land and upon fraudulent representations that the proceeds would be used to purchase it for the corporation and for working capital; whereas two-fifths

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of such proceed went to the promoters. Held that, the burden being on the promoters to exculpate their conduct, the evidence, in the absence of contradiction or explanation, required the conclusion that the property and money acquired by the corporation was of much less value than the amount of the secured debts and that the corporation was insolvent from the beginning. P. 158.

75 F.2d 977 reversed.

Certiorari, 295 U.S. 726, to review a decree which reversed a decree of the District Court granting part of the relief sought by the receiver of an insolvent corporation in a suit to compel individuals, who had promoted it, and three of their corporate agencies, to account for profits made by selling it land and marketing its securities. The decree of the District Court is here affirmed with a modification. For an earlier phase, see 68 F.2d 925; 293 U.S. 67.

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CARDOZO, J., lead opinion

MR. JUSTICE CARDOZO delivered the opinion of the Court.

The suit is by a receiver of an insolvent corporation to compel its promoters and their confederates to restore illicit gains.

At the time of the challenged acts, Maxime H. Furlaud was the president and principal shareholder of Furlaud & Company, Inc., a corporation now dissolved. For convenience, the name Furlaud, unless qualified, will be used to designate the company. Carlos Reuter was an officer of the same corporation and a holder of a block of shares. He was named as a defendant, but was not served with process, and hence is out of the case except insofar as his acts affect the liability of others. Kingston Corporation was a subsidiary of Furlaud, and was owned and controlled by the same persons. Byron Corporation and Chaucer Corporation were closely related to Furlaud and Kingston; the wife of Maxime Furlaud being an important shareholder in Byron and the wife of Carlos Reuter an important shareholder in Chaucer.

Furlaud was known as an investment banking house, and was interested in the issue and sale of corporate securities. Particularly it was interested in a project for the formation of a Company that would own and operate gas fields in Western Pennsylvania. Reuter, representing Furlaud, took options from the owners of nine separate tracts. These options, which at first were gratuitous, were acquired in the name of a subsidiary, Kingston.

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Engineers were then employed to examine the fields and appraise their value. One of them, Davis, made report to [56 S.Ct. 43] his employer in February, 1930, that five of the tracts, which were afterwards acquired for about $1,300,000, had a value of about $1,700,000 at the time of the appraisal. The record permits the inference that the report was unsatisfactory to Reuter, who was hoping for a valuation that would make investment in the enterprise more attractive to the public. Accordingly, the business of appraisal for the four remaining tracts was taken out of the hands of Davis and placed in charge of others. The new engineers were less conservative than their predecessor. They fixed the value of the four tracts at about $5,000,000, nearly five times the purchase price. Lands to be conveyed by Nuss for $660,000 figured in the appraisal as worth the price and a million over. A value of $850,000 was assigned to undeveloped acres which he agreed to convey for nothing. The purchase price for the nine tracts was $2,572,989; $7,000,000, or nearly that, was the appraisal for the whole. A witness for the complainant stated at the trial that the fair value of all the tracts was about $2,700,000, the cost, and little more.

With the appraisals thus completed, a company was organized in February, 1930, to take title to the gas fields covered by the options. This was the Duquesne Gas Corporation, now in the hands of the complainant as receiver. The options for the lands were still in the name of Kingston. Furlaud had made a payment ($45,510) to give them binding force, but title had not passed. The new company, when organized, had an authorized capital of 1,000 shares of no-par common stock. Furlaud subscribed for the whole issue, paying for the shares at the rate of 50 cents a share. The nominees and representatives of Furlaud were then...

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