552 F.2d 1239 (7th Cir. 1977), 75-1558, Mills v. Electric Auto-Lite Co.

Docket Nº:75-1558, 75-1559.
Citation:552 F.2d 1239
Party Name:Elmer E. MILLS and Louis Susman, Plaintiffs-Appellants, Cross-Appellees, v. The ELECTRIC AUTO-LITE COMPANY et al., Defendants-Appellees, Cross-Appellants.
Case Date:April 07, 1977
Court:United States Courts of Appeals, Court of Appeals for the Seventh Circuit
 
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Page 1239

552 F.2d 1239 (7th Cir. 1977)

Elmer E. MILLS and Louis Susman, Plaintiffs-Appellants,

Cross-Appellees,

v.

The ELECTRIC AUTO-LITE COMPANY et al., Defendants-Appellees,

Cross-Appellants.

Nos. 75-1558, 75-1559.

United States Court of Appeals, Seventh Circuit

April 7, 1977

Argued April 6, 1976.

Rehearing and Rehearing En Banc Denied June 3, 1977.

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Barnabas F. Sears, Arnold I. Shure, Alex Elson, Harry B. Reese, Aaron S. Wolff, Thomas L. Brejcha, Jr., Willard J. Lassers, Chicago, Ill., for plaintiffs-appellants.

Jerold S. Solovy, Joan M. Hall, Alan L. Metz, Michael J. Rovell, Michael J. Place, and Jenner & Block, of Counsel, Chicago, Ill., for appellees.

Before SWYGERT and CUMMINGS, Circuit Judges, and JAMESON, Senior District Judge. 1

SWYGERT, Circuit Judge.

The principal issue in this appeal is whether the terms of a merger between Mergenthaler Linotype Company ("Mergenthaler") and the Electric Auto-Lite Company ("Auto-Lite") were fair to Auto-Lite's minority shareholders. We hold that the merger terms were fair and reverse the judgment of the district court.

I

This is the second time that this case has come before us. In order to place this appeal in its proper perspective, we will briefly review the case's history.

Prior to 1960 Auto-Lite primarily manufactured automotive parts and equipment. Because of changes in the automobile industry in the late 1950's, the continuation of its traditional business was threatened and it began a program of diversification into other industries. Nonetheless, in 1963 a substantial percentage of its sales remained tied to the automobile industry.

Mergenthaler produced and distributed typesetting equipment. It began to purchase Auto-Lite stock in 1957 and by March 1962 had acquired 54.2 percent of Auto-Lite. At that point Auto-Lite became a subsidiary of Mergenthaler and Mergenthaler obtained control of the Auto-Lite Board of Directors.

In early 1963 Mergenthaler decided to attempt a merger of itself and Auto-Lite into a new company to be called "Eltra Corporation." The Auto-Lite Board voted to accept the proposed merger on May 28, 1963 and on May 29 a request for proxies was sent to shareholders accompanied by a statement in which the Board endorsed the merger. The holders of approximately thirteen percent of the minority shares had to approve the merger in order to secure the two-thirds vote necessary for ratification. The merger was approved at a shareholders' meeting on June 27, 1963 and became effective on June 28, 1963.

Plaintiffs, who were Auto-Lite shareholders representing themselves and all other minority Auto-Lite shareholders, filed suit on June 26, 1963 in the district court for the Northern District of Illinois. They sought to set aside the merger on the ground that the proxy statement was deceptive because it endorsed the merger without clearly disclosing that the Auto-Lite Board was controlled by Mergenthaler. The district court agreed with plaintiffs' theory and held that the proxy statement violated section 14(a) of the Securities Exchange Act of 1934. It also held that the plaintiffs had shown a causal relationship between the proxy statement and the consummation of the merger. 281 F.Supp. 826 (N.D.Ill.1967).

This court affirmed the district court's holding that the proxy statement was illegally deceptive but reversed on the causality

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issue, holding that no relief could be appropriate if the defendants could show "by a preponderance of probabilities" that the merger would have been approved even if the proxy statement had not been deceptive. 403 F.2d 429, 436 (7th Cir. 1968).

The Supreme Court reversed and reinstated the judgment of the district court. It held that "(w)here there has been a finding of materiality, a shareholder has made a sufficient showing of causal relationship between the violation and the injury for which he seeks redress if, as here, he proves that the proxy solicitation itself, rather than the particular defect in the solicitation materials, was an essential link in the accomplishment of the transaction." 396 U.S. 375, 385, 90 S.Ct. 616, 622, 24 L.Ed.2d 593 (1970).

The Court went on to consider the relief to which plaintiffs were entitled. It noted that the merger did not need to be set aside because of the deception in the proxy statement, though a court could order such action if it were warranted by equitable considerations. It then discussed the possibility of monetary relief and stated:

(W)here, as here, the misleading aspect of the solicitation did not relate to terms of the merger, monetary relief might be afforded to the shareholders only if the merger resulted in a reduction of the earnings or earnings potential of their holdings. In short, damages should be recoverable only to the extent that they can be shown. If commingling of the assets and operations of the merged companies makes it impossible to establish direct injury from the merger, relief might be predicated on a determination of the fairness of the terms of the merger at the time it was approved. These questions, of course, are for decision in the first instance by the District Court on remand, and our singling out of some of the possibilities is not intended to exclude others. 396 U.S. at 388-89, 90 S.Ct. at 624.

Finally, the Court held that the plaintiffs were entitled to be reimbursed by the corporation for litigation expenses and reasonable attorneys' fees.

The case then moved back to the district court for a determination of the appropriate relief. The court first held that the merger should not be rescinded. It then determined that the merger terms were unfair to plaintiffs and awarded the class they represent $1,233,918.35, as well as approximately $740,000 in prejudgment interest. It further held that plaintiffs' attorneys should be compensated out of this award.

Both parties now appeal from the district court's judgment. Plaintiffs contend that the amount of damages was too low and that their attorneys' fees should be assessed against defendants rather than against the damages awarded. Defendants assert that no damages should have been awarded because the terms of the merger were fair.

II

The district court considered two possible theories of damages in attempting to follow the Supreme Court's mandate: (1) to compensate plaintiffs for the reduction of the earnings potential of their holdings in Auto-Lite as a result of the merger; or (2) an award based on a determination of the fairness of the terms of the merger at the time it was approved. It rejected the use of the first theory under the circumstances of this case and adopted the second. We shall evaluate both whether the district court was erroneous in its choice of remedies and whether it correctly applied the second theory.

In order to perform this evaluation, it is first necessary to describe the merger terms. They called for the minority Auto-Lite shareholders to receive 1.88 preferred shares of Eltra for each share of Auto-Lite common that they held and the Mergenthaler shareholders to receive one common share of Eltra for each share of Mergenthaler common that they held. Eltra preferred shares were convertible into common shares on a one-to-one basis for the first two years following the merger and on a slightly decreasing basis for the next three

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years. 2 At the time of the merger Mergenthaler common paid a dividend of $1 per share and Auto-Lite common paid a dividend of $2.40 per share. Under the merger terms Eltra common was to pay a dividend of $1 per share and Eltra preferred a dividend of $1.40 per share. The dividend received by the Auto-Lite minority shareholders was therefore increased as a result of the merger by twenty-three cents for each share of Auto-Lite that they had held, because 1.88 X $1.40 = $2.63.

The preferred Eltra stock was clearly worth more than Eltra common because it paid a higher dividend and represented a more secure investment if the new corporation encountered financial difficulties, yet was convertible into common stock. During the month following the merger, the average market value of Eltra preferred was $31.06 per share. Consequently the Auto-Lite minority shareholders received stock worth $58.39 on the market for each share of Auto-Lite that they had previously held, because 1.88 X $31.06 = $58.39. The average market value of Eltra common for this month was $25.25 per share. Since the Mergenthaler shareholders received one share of Eltra common for each share of Mergenthaler common, the Auto-Lite shareholders received stock for each share of Auto-Lite that they held worth $58.39/$25.25 = 2.31 times as much on the market as the stock that the Mergenthaler shareholders received for each share of Mergenthaler that they held. We therefore hold that the exchange ratio for the merger was effectively 2.31 to 1. 3

III

A theory of damages based on the "reduction of the earnings or earnings potential" of the Auto-Lite minority shareholders caused by the merger is an attempt to discern, by looking at the postmerger performance and activities of the Auto-Lite subsidiary in comparison to the other components of Eltra, whether the value placed on the Auto-Lite shares at the time the merger took place was fair to those shareholders. Plaintiffs contend that the postmerger record of Eltra demonstrates the unfairness of the merger in two significant ways: first, by showing that Eltra appropriated for use in its other divisions liquid assets held by Auto-Lite prior to the merger; and second, by showing that Eltra continually siphoned off Auto-Lite's postmerger earnings.

Even if plaintiffs' assertions are true, they cannot form the basis for an award of damages. Plaintiffs...

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