General Finance Corp. v. Fidelity & Cas. Co. of New York

• Decision Date: 14 April 1971
• Docket Number: No. 20331.,20331.
• Citation: 439 F.2d 981
• Parties: GENERAL FINANCE CORPORATION, Bankrupt, By Ronald W. Wright, Trustee, Appellant, v. The FIDELITY AND CASUALTY COMPANY OF NEW YORK, Appellee.
• Court: U.S. Court of Appeals — Eighth Circuit

439 F.2d 981 (1971)

GENERAL FINANCE CORPORATION, Bankrupt, By Ronald W. Wright, Trustee, Appellant, v. The FIDELITY AND CASUALTY COMPANY OF NEW YORK, Appellee.

No. 20331.

United States Court of Appeals, Eighth Circuit.

March 25, 1971.

Rehearing Denied April 14, 1971.

Gale B. Braithwaite, Braithwaite, Cadwell & Braithwaite, Sioux Falls, S. D., Delvin N. J. Welter, Yankton, S. D., for appellant.

Robert C. Heege, Davenport, Evans, Hurwitz & Smith, Soux Falls, S. D., for appellee.

Before MATTHES, Chief Judge, CLARK, Associate Justice^*, and BRIGHT, Circuit Judge.

CLARK, Associate Justice:

Appellant, Ronald W. Wright, trustee of General Finance Corporation GFC a bankrupt, brought this suit in a state court in South Dakota, which was removed to the United States District Court of South Dakota on grounds of diversity of citizenship, to recover on a fidelity bond issued to GFC by The Fidelity and Casualty Company of New York, appellee. Under the terms of the bond, appellee undertook to insure GFC against any loss of money or other property, real and personal, through any "fraudulent or dishonest" act or acts committed by one or more of GFC's employees, whether acting alone or in collusion with others during the term of the bond. The maximum liability of appellee under the obligation was $100,000 per employee and $50,000 excess coverage on an aggregate basis. The Trustee claims that Fred H. Leach, the president of GFC prior to the bankruptcy, through a series of illegal inter-corporate transactions, the making of cash advances to himself and others from GFC funds, the payment of illegal stock, dividends and other manipulations, misappropriated funds of GFC in an amount far in excess of the penalty of the bond. However, the District Court found that Leach was not an "employee" under the terms of the bond; and, even assuming that he was, that the evidence was not clear and convincing that the acts complained of were fraudulent and dishonest but could well have been merely the result of bona fide business transactions. 311 F.Supp. 353. We disagree, reverse and enter judgment for appellant in the maximum penalty of the bond, $150,000.00.

1. Background of the Litigation

Fred H. Leach was a citizen of Yankton, South Dakota, where he had been in business for many years. He had built up a small insurance, credit finance and town-development empire in Yankton, the nucleus of which were six corporations: GFC, Creditors Investors Corporation, Dakota Underwriters, Inc., Fred H. Leach Agency, Yankton Development Company and Fort Dakota Inc. Dakota Underwriters, Inc. acted as manager and underwriter for several insurance companies, one of which was Dakota Mutual Insurance Company. The Fred H. Leach Agency was a general insurance broker and wrote the bond involved here. Both GFC and Creditors Investors Corporation were finance concerns, the former dealing in relatively large loans while the latter handled GFC commercial paper, collateral, open accounts, and small loans which it sold to Security Investment Company of St. Louis. Yankton Development Company was engaged in the development of properties around Yankton, while Fort Dakota, Inc. was a tourist attraction at Lewis and Clark Lake. Mr. Leach was the president of each of the corporations and was a director and stockholder in each of them as well. The stock of the companies was closely held; however, Mr. Leach and his wife owned a majority of the stock in only one, General Finance. The directors varied but those of GFC and Creditors Investors Corporation were practically identical.

The bond in controversy was originally issued in 1948 and at the relevant time here undertook to indemnify GFC for all loss sustained through "any fraudulent or dishonest act or acts committed anywhere by any of its Employees" acting alone or in collusion with others. The assured varied from time to time as did the penal sum of the board but it is agreed that GFC was protected at all times and that the maximum coverage involved is $150,000.00.

The controversy narrows to two questions i. e. whether Fred H. Leach was an employee of GFC within the terms of the bond and, if so, if the conduct complained of was fraudulent or dishonest.

2. The Provisions of the Bond.

Under the language of the bond itself the term "employees" included "one or more natural persons (except directors or trustees * * * who are also officers or employees" of GFC in some other capacity) while in the "regular service" of GFC in the "ordinary course" of the latter's business and who is compensated by it in wages, salary or commissions and whom GFC "has the right to govern and direct in the performance of such service."

Originally the bond — by endorsement — specifically provided that the term "employees" did not include Fred H. Leach, President, or W. G. Smith, Vice President, and a reduced premium was charged. However, in 1953 Mr. Leach wrote appellee and advised that it was necessary that Fred H. Leach be covered under the bond. The appellee then amended the bond by an endorsement cancelling and terminating the previous specific exclusion of Leach and Smith. It charged an additional premium for the amendment, advised GFC of the new coverage and the latter accepted the same by endorsing and returning a copy thereof.

3. The Bond's Coverage of Majority Stockholder Leach.

The appellee insists, and the District Court held, that the amendment of the bond merely intended to insure GFC against Leach only if the latter met the definition of "employee" in the bond. We hold that this finding was erroneous. It seems clear that the exception provision was only intended to exclude outside directors or trustees and not those who functioned both as a director and officer. In any event in case of ambiguity we will be guided in interpretation by the conduct of the parties. Huffman v. Shevlin, 76 S.D. 84, 72 N.W.2d 852 (1955). See 17 Am.Jur.2d Contracts § 274, and cases there cited. In the light of the undisputed facts of the case, it is difficult to see how the appellee can now deny the coverage sought and paid for by GFC. Originally when GFC asked that Leach be excluded from the coverage of the bond, appellee issued an endorsement specifically exempting him from coverage. When GFC asked that the bond be extended to include Leach, the appellee merely cancelled the previous exemption. This clearly indicates to us that the bond without a limiting endorsement was intended to cover employees such as Leach.

Nor do we believe that the fact that Leach and his wife owned a majority of the stock of GFC avoids liability. If majority stock ownership was thought to pose an unacceptable hazard, the insurer could have inserted a provision in the policy concerning stock ownership. Although the corporations were closely held, each was at all times a separate entity in the eyes of the law. Each of the corporations involved had separate boards of directors, of which Mr. Leach was not the sole member. This case is thus distinguishable from Kerr v. AEtna Casualty & Surety Co., 350 F.2d 146 (C.A.4, 1965). Although Mr. Leach and his wife owned a majority of the stock, the corporation was still subject to the control of the Directors who at all times had the right to govern and direct the exercise of all corporate powers, business and property. See Insurance Company of North America v. Greenberg, 405 F.2d 330 (C.A.10, 1969). Indeed, the law places that duty on directors generally. See S.D.Code of 1939, Title 11, Ch. 11.07, § 11.0705. The fact, if true, that the Directors were generally but a "rubber stamp" is not controlling here. The policy does not require that the board of the assured generally make independent decisions. The issue, under the terms of the policy, is did they have the "right to govern and direct" Leach, and the answer is in the affirmative. See Bank of Willow Lakes v. Syverson, 43 S.D. 295, 178 N.W. 989 (1920).

4. The Fraudulent or Dishonest acts.

The appellant alleges some 13 items upon which he bases recovery. The penalty of the bond is only $150,000 so we need not go into each one. The overall scheme according to the appellant is that Mr. Leach raided GFC to aid other corporations in the complex.

(a) Advances to Dakota Mutual. As we have noted, two of the corporations in the Leach combine were Dakota Underwriters, Inc. and Dakota Mutual Insurance Company. While we are not advised as to the stockholders lists we note that Mr. Leach was president of both companies and G. F. Halstead was secretary of Dakota Underwriters. Mr. Halstead owned about 2600 shares of stock in Dakota Underwriters, and GFC was a substantial stockholder. Mr. Leach's holdings are not shown. Dakota Mutual was owned by its policy holders; however, under its general agency contract with Dakota Underwriters, the latter agreed to pay all of the operating and administrative expenses of Dakota Mutual. It appears that Dakota Underwriters managed and controlled Dakota Mutual.

During a period of some two years Mr. Halstead would go to Mr. Leach to obtain money to meet the payroll of Dakota Mutual and to pay off claims under its policies. During this period he secured $161,000 from Mr. Leach in the form of checks on GFC. The checks were payable to Dakota Underwriters but were deposited to the credit of Dakota Mutual's account at the...