Phoenix Savings & Loan, Inc. v. Aetna Casualty & Sur. Co.

• Decision Date: 08 June 1970
• Docket Number: No. 13551.,13551.
• Citation: 427 F.2d 862
• Parties: PHOENIX SAVINGS AND LOAN, INC., Appellant, v. The AETNA CASUALTY AND SURETY COMPANY, Appellee.
• Court: U.S. Court of Appeals — Fourth Circuit

427 F.2d 862 (1970)

PHOENIX SAVINGS AND LOAN, INC., Appellant, v. The AETNA CASUALTY AND SURETY COMPANY, Appellee.

No. 13551.

United States Court of Appeals, Fourth Circuit.

Argued November 7, 1969.

Decided June 8, 1970.

Clarence W. Sharp, Herbert H. Rosenbaum, Baltimore, Md., for appellant.

William B. Kempton, Baltimore, Md., Elmer W. Beasley, Hartford, Conn., for appellee.

Before SOBELOFF, BOREMAN and CRAVEN, Circuit Judges.

CRAVEN, Circuit Judge.

Phoenix Savings and Loan, Inc., successor to Phoenix Savings and Loan Association, Inc., brought this action against the Aetna Casualty and Surety Company in the Superior Court of Baltimore City, Maryland, seeking indemnity under a Savings and Loan Blanket Bond, Standard Form No. 22, revised to September 1960, for alleged losses sustained by Phoenix through the defalcations of its officers, employees, and directors. Aetna removed the suit to the United States District Court for the District of Maryland based upon diversity of citizenship and the amount in controversy. 28 U.S.C. § 1332. In the district court, Aetna denied the existence of the alleged losses and asserted a number of affirmative defenses. On July 6, 1966, the district court granted Aetna's motion for summary judgment. On appeal, this court reversed and remanded the case for trial. Phoenix Savings and Loan, Inc. v. Aetna Casualty and Surety Co., 381 F.2d 245 (4th Cir. 1967). Following extensive pretrial proceedings, the parties agreed to a pretrial order containing 194 paragraphs of fact stipulations as well as a stipulation as to the authenticity of 44 documentary exhibits. At trial, these stipulations and documents were presented to the jury and testimony regarding certain corporate records was elicited from the current president of Phoenix. No other evidence was introduced. At the close of all the evidence, the district court directed a verdict in favor of Aetna. Phoenix appeals and, again, we reverse.

The original Phoenix was incorporated under the laws of Maryland on December 29, 1958, and conducted business in the vicinity of Baltimore, Maryland, until, on July 17, 1961, it was placed in the hands of a conservator by the Circuit Court of Baltimore City. A court-ordered audit at that time revealed a $142,839.86 net capital deficiency. During the entire life of the original Phoenix, Bernard Jay Coven and Saul Marshall were active in management and control of the corporation. Coven served from time to time as president, executive director, director, chairman of the board of directors, member of the executive committee and attorney. Marshall served variously as secretary, assistant secretary, treasurer, comptroller, auditor, member of the executive committee and director. Albert Miller, who was never an officer or director, served as agent, conveyancer, and mortgage representative. Phoenix attributes its losses to the activities of Coven, Marshall, and Miller as primary malefactors. Aetna, however, asserts that other directors also had knowledge of their fraudulent activities.¹

Phoenix has, at this point in the litigation, abandoned all except two of the 14 claims² that it initially alleged. One claim is based upon losses resulting from four improper stock sales.³ Each sale involved the issuance of Phoenix stock to another corporation in consideration of value less than that authorized by Phoenix' board of directors. One sale was to Great Eastern Corporation, which was owned and controlled by Coven and Marshall in conjunction with certain other Phoenix directors. The other sales were to Mortgage Surplus Fund, Inc., Interstate Appraisal, Inc., and KWTKDN, Inc., which were owned and controlled by Albert Miller and his wife. The parties have stipulated that Coven and Marshall handled all such stock transactions.

The second claim is based upon losses sustained by Phoenix in transactions⁴ with the Royal Stewart Company, owned and controlled by Miller. Miller, as loan officer, purchased four bogus home improvement mortgages from Royal Stewart Company on behalf of Phoenix. It is stipulated that Phoenix' books clearly reflect all of these fraudulent transactions. While Aetna did contend below that some of these dealings resulted in no real loss to Phoenix, it does not raise that issue on appeal.

There were two successive identical Aetna fidelity blanket bonds in effect when the defalcations took place. The first bond covered the period December 1, 1959, through December 1, 1960, and the second covered the period December 1, 1960, through December 1, 1961. Both bonds were "discovery bonds" binding Aetna to indemnify Phoenix against certain losses⁵ sustained at any time, but discovered during the term of the bond. Both bonds contained certain definition, exclusion, notice, and termination clauses⁶ upon which Aetna bases its affirmative defenses.⁷ The parties agree that no notice of loss was given to Aetna prior to the conservatorship.

There is some uncertainty regarding the locus of ownership and control of Phoenix stock during 1958 through 1961. The stock transfer books of the corporation were incomplete. J. Carlton Swain, now president of Phoenix, testified that 54 percent of all the voting stock⁸ was owned by the public and was traded over the counter. Aetna contends, with complex computations based on the documentary evidence, that Coven, Marshall, and other malefactors owned more than 50 percent of the voting stock. The district court assumed, arguendo, that the public owned 54 percent. Coven, Marshall, and Miller may have controlled enough Class B stock to block any affirmative stockholder action since under the corporate charter any such action required the vote of 75 percent of the Class B stockholders.

Phoenix' corporate charter vests in the board of directors "the general management and control of the business and property of the Corporation and * * * all the powers of the Corporation" not reserved to the stockholders. No powers were expressly reserved to the stockholders. The corporate bylaws provided for an executive committee to be elected by the board of directors and to exercise all the powers of the board between board meetings. The bylaws further provided for an executive director to be appointed by the board of directors to "have charge of and manage the affairs of the corporation and make such reports thereon to the Board of Directors as it may from time to time require."

On September 15, 1959, the board of directors constituted Coven and Marshall as the executive committee. On January 21, 1960, the executive committee (Coven and Marshall) appointed Coven executive director. On April 28, 1960, and on May 26, 1960, X. F. Sutton and Mac Fields respectively were added to the executive committee. All of the directors of Phoenix were selected by the board of directors or by the executive committee acting for the board. A total of 40 different persons served as directors during the period 1958 through the beginning of the conservatorship.⁹ After creation of the executive committee, there were only three meetings of the board of directors held. On January 26, 1960, 18 members of the board were present and action was taken ratifying all acts of the officers and executive committee. On December 8, 1960, 13 members were present and action was taken continuing the executive committee in office and ratifying its prior acts. On April 19, 1961, the entire board, consisting of 11 members, was present and all prior acts of the officers and executive committee were approved. The minutes of the board meetings during the entire life of the original Phoenix show only Coven and Marshall making reports of corporate activities to the board. Coven and Marshall, who held various offices as noted above, conducted most of the day-to-day business of the corporation and controlled its account books. Coven appointed Albert Miller to be Phoenix' mortgage representative on March 18, 1960. Miller was under the direct supervision of Coven and Marshall during his entire tenure with Phoenix.

The original Phoenix carried on substantial business dealings with corporations owned and controlled by Coven, Marshall, and other Phoenix directors. This was possible because Coven and Marshall, as executive committee, caused the corporate charter to be amended to allow transactions between Phoenix and its directors. Coven, Marshall, Fields, Sutton and six other directors were associates in various business ventures in addition to their association in the Phoenix organization.

There is no dispute between Phoenix and Aetna as to the operative facts, all of which have been determined by stipulation. Aetna contends, and the district court so held, that the undisputed facts establish conclusively, as a matter of law, Aetna's affirmative defenses. Those affirmative defenses rest on the premise that Phoenix was the mere "alter ego" of Coven and Marshall and that the malefactors had such complete control of the corporation as to require imputation to the corporation of all that they knew about the illicit transactions as those transactions occurred. Aetna further asserts, and the district court held, that Coven and Marshall never acted within the terms of the bond as "employees" of Phoenix but rather, because of their control of the corporation, only acted as directors. Aetna's position is that all directorial acts were specifically excluded from the bond's coverage. Because knowledge of the condemned transactions is thus imputable to Phoenix, Aetna reasons, the bonds terminated as to each employee upon his first fraudulent act; Phoenix' failure to divulge prior fraud in its second bond application rendered that bond void ab initio; and Phoenix' failure to give Aetna notice, proof of loss, etc., after imputed discovery and within the bond's time limits bars recovery.

The district court based its decision to enter a directed verdict for Aetna upon Aetna's affirmative defenses and held that "no reasonable man could find in...