Crosby v. Beam

• Decision Date: 20 December 1989
• Docket Number: No. 88-1516,88-1516
• Citation: 548 N.E.2d 217,47 Ohio St.3d 105
• Parties: , 58 USLW 2430 CROSBY et al., Appellees, v. BEAM et al., Appellants.
• Court: Ohio Supreme Court

Page 105

47 Ohio St.3d 105

548 N.E.2d 217, 58 USLW 2430

CROSBY et al., Appellees, v. BEAM et al., Appellants.

No. 88-1516.

Supreme Court of Ohio.

Submitted Oct. 11, 1989.

Decided Dec. 20, 1989.

Syllabus by the Court

1. Typically, a close corporation is a corporation with a few shareholders and whose corporate shares are not generally traded on a securities market.

2. Where majority or controlling shareholders in a close corporation breach their heightened fiduciary duty to minority shareholders by utilizing their majority control of the corporation to their own advantage, without providing minority shareholders with an equal opportunity to benefit, such breach, absent any legitimate business purpose, is actionable.

3. Claims of breach of fiduciary duty alleged by minority shareholders against shareholders who control a majority of shares in a close corporation, and use their control to deprive minority shareholders of the benefits of their investment, may be brought as individual or direct actions and are not subject to the provisions of Civ.R. 23.1.

On October 23, 1986, appellees, Howard F. (Dean) Crosby ("Crosby") and Christian Caring Center, The Church of Holy Light ("Church"), filed an amended complaint in the Court of Common Pleas of Lucas County. The record indicates that Seascape Building Company, Inc. ("Seascape") was, between April 30, 1977 and January 29, 1985, an Ohio corporation; that Crosby was a 26.214 percent shareholder in Seascape from April 30, 1977 until September 14, 1984; that in September 1984, Crosby transferred his shares of stock to the Church; that the Church held the shares in Seascape until January 29, 1985 when Seascape was voluntarily dissolved; and that upon dissolution, all corporate assets were transferred to the Crosby Properties Liquidating Trust ("the Trust") and each shareholder of Seascape stock became a beneficiary of the Trust in percentages identical to his interest in Seascape.

Appellees brought this action against appellants, Kenneth and Sally Beam and Gary and Sue Graves, who were the controlling shareholders, officers and directors of Seascape. Appellees alleged that appellants improperly expended corporate funds in that appellants: paid themselves unreasonable salaries (Count 1); caused Seascape to pay their personal expenses (Count 2); used Seascape's property for personal enterprise (Count 3); caused Seascape to purchase life insurance for their benefit (Count 4); and took improper, low-interest loans from Seascape, thereby depriving the corporation of interest income (Count 5). Count 6 alleged that the Church received less in Trust payments than the amount to which it was entitled. Appellees' final count, Count 7, alleged that all the foregoing acts of corporate wrongdoing were carried out pursuant to a conspiracy between the appellants. Appellees also claimed to have been deprived of $215,600 in distributions from the Trust and to have incurred more than $50,000 in attorney fees. Jointly, appellees sought $275,000 in compensatory damages and $200,000 in punitive damages.

Appellants filed a Civ.R. 12(B)(6) motion to dismiss the complaint for failure to state a claim. Appellants argued that appellees' action could only be brought as a Civ.R. 23.1 shareholder's derivative action. Appellants contended that appellees did not have standing to bring a shareholder's derivative action because Crosby did not own Seascape stock when this action was commenced and the Church could not assert claims which occurred prior to its acquisition of Seascape stock.

On May 13, 1987, the trial court granted the appellants' motion to dismiss Counts 1 through 5 and Count 7 of appellees' amended complaint. The trial court found that the claims of the appellees affected the corporation itself and that the shareholders were affected only in a general way. Hence, the appellees should have instituted a shareholder's derivative action since the appellees lacked standing to proceed individually. The trial court also noted that one shareholder, Toledo Trust, was not a party to the action and agreed with appellants that Crosby lacked standing to pursue a shareholder's derivative action since Crosby did not own any stock when the action was commenced and the Church could not assert any claims prior to obtaining the stock on September 14, 1984.

Furthermore, the trial court found no merit in the appellees' argument that they should be permitted to proceed individually against the appellants for breach of fiduciary duty owed by majority shareholders to minority shareholders. The trial court found that the alleged acts of appellants did not destroy the appellees' investment for the appellants' benefit. Also, the trial court found that appellants' alleged acts did not produce special damages peculiar to the appellees.

On July 8, 1988, the court of appeals, in reversing the common pleas court, held that the appellees were asserting their claims personally, so compliance with Civ.R. 23.1 was not required. The court of appeals found that appellees' complaint stated a cause of action and the trial court had improperly dismissed appellees' complaint.

The cause is now before this court pursuant to the allowance of a motion to certify the record.

David R. Pheils, Jr. & Associates and David R. Pheils, Jr., Perrysburg, for appellees.

Cooper, Straub, Walinski & Cramer, Keith A. Wilkowski and John L. Straub, Toledo, for appellants.

Murray & Murray Co., L.P.A., Dennis E. Murray, Sr. and Kirk J. Delli Bovi, Sandusky, urging affirmance for amicus curiae, Terrence P. Morris.

Vorys, Sater, Seymour & Pease, Michael J. Canter and John J. Kulewicz, Columbus, urging reversal for amici curiae, Dale W. Van Voorhis, Gasper C. Lococo and Funtime, Inc.

DOUGLAS, Justice.

The issue before us is whether the appellees' cause of action may be maintained as an individual action or whether dismissal was proper because the suit was not instituted as a Civ.R. 23.1 shareholder's derivative suit.

A shareholder's derivative action is brought by a shareholder in the name of the corporation to enforce a corporate claim. ¹ Such a suit is an exception to the usual rule that a corporation's board of directors manages or supervises the management of a corporation. A derivative action allows a shareholder to circumvent a board's refusal to bring a suit on a claim. On the other hand, if the complaining shareholder is injured in a way that is separate and distinct from an injury to the corporation, then the complaining shareholder has a direct action. 2 O'Neal & Thompson, O'Neal's Close Corporations (3 Ed.1987) 119-121, Section 8.11.

Appellants contend that this case should have been brought as a derivative action because appellees' amended complaint alleges only that the appellants-majority shareholders misappropriated corporate funds. This misappropriation directly affected the corporation, appellants contend, and only indirectly harmed the appellees-minority shareholders. Thus, the appellants argue that the appellees could not maintain this cause as a direct action.

I Close Corporation

Typically, a close corporation is a corporation with a few shareholders and whose corporate shares are not generally traded on a securities market. 1 O'Neal & Thompson, O'Neal's Close Corporations (3 Ed.1986) 2-3, Section 1.02. See, also, R.C. 1701.591.

Close corporations bear a striking resemblance to a partnership. In essence, the ownership of a close corporation is limited to a small number of people who are dependent on each other for the enterprise to succeed. Just like a partnership, the relationship between the shareholders must be one of trust, confidence and loyalty if the close corporation is to thrive. While a close corporation provides the same benefits as do other corporations, such as limited liability and perpetuity, the close corporation structure also gives majority or controlling shareholders opportunities to oppress minority shareholders. For example, the majority or controlling shareholders may refuse to declare dividends, may grant majority shareholders-officers exorbitant salaries and bonuses, or pay high rent for property leased from the majority shareholders. ² Donahue v. Rodd Electrotype Co. of New England, Inc. (1975), 367 Mass. 578, 588-589, 328 N.E.2d 505, 513.

Minority shareholders in a close corporation, denied any share of the profits by the majority shareholder's action, will either suffer a loss or try to find a buyer for their stock. This situation is contrasted with an oppressed minority shareholder in a large publicly owned corporation who can more easily sell his shares in such a corporation. Generally, there is no ready or available market for the stock of a minority shareholder in a close corporation. This presents a plight for a minority shareholder in a close corporation who can become trapped in a disadvantageous situation from which he cannot be easily extricated. Donahue, supra, 367 Mass. at 591-592, 328 N.E.2d at 515.

II Majority Shareholders' Fiduciary Duty in a Close Corporation

Generally, majority shareholders have a fiduciary duty to minority shareholders. Jones v. H.F. Ahmanson & Co. (1969), 1 Cal.3d 93, 81 Cal.Rptr. 592, 460 P.2d 464. Courts in sister states and Ohio appellate courts have found a heightened fiduciary duty between majority and minority shareholders in a close corporation. ³ This duty is similar to the duty that partners owe one another in a partnership because of the fundamental resemblance between the close corporation and a partnership. Donahue, supra, 367 Mass. at 593, 328 N.E.2d at 515, found the standard of a duty to be of the " 'utmost good faith and loyalty.' "

Federal courts, applying what they found to be Ohio law, assumed the existence of a fiduciary duty between shareholders of a close corporation and particularly between majority and minority shareholders. In United States v. Byrum (1972), 408 U.S. 125, 137, 92 S.Ct. 2382, 2391, 33 L.Ed.2d 238 the...