Clagett v. Hutchison

• Decision Date: 14 September 1978
• Docket Number: No. 77-1420,77-1420
• Citation: 583 F.2d 1259
• Parties: C. Thomas CLAGETT, Jr., trustee, and Ira S. Siegler, trustee, and the Riggs National Bank of Washington, D. C. (a National Banking Association organized and operating under the National Banking Laws of the United States of America), trustee, and John Lawson Senior, Jr., Appellants, v. Richard H. HUTCHISON, Jr., and Steven Sobechko, and James Sobechko, and Joseph E. Shamy, and Mike Brown and Daniel J. Rizk, Appellees.
• Court: U.S. Court of Appeals — Fourth Circuit

Page 1259

583 F.2d 1259

C. Thomas CLAGETT, Jr., trustee, and Ira S. Siegler trustee, and the Riggs National Bank of Washington, D. C. (a National Banking Association organized and operating under the National Banking Laws of the United States of America) trustee, and John Lawson Senior, Jr., Appellants, v. Richard H. HUTCHISON, Jr., and Steven Sobechko, and James Sobechko, and Joseph E. Shamy, and Mike Brown and Daniel J. Rizk, Appellees.

No. 77-1420.

United States Court of Appeals Fourth Circuit.

Argued March 6, 1978.

Decided Sept. 14, 1978.

Francis D. Murnaghan, Jr., Baltimore, Md. (Benjamin Rosenberg and John W. Scheflen, Baltimore, Md., on brief), for appellants.

Lawrence S. Greenwald, Baltimore, Md. (Edward E. Obstler, Perry M. Gould, Gordon, Feinblatt, Rothman, Hoffberger & Hollander, Baltimore, Md., Charles H. Burton, Thomas E. Patton, Kurrus & Ash, Washington, D. C., on brief), for appellees.

Before BRYAN, Senior Circuit Judge, and BUTZNER and HALL, Circuit Judges.

K. K. HALL, Circuit Judge:

This appeal arises out of a civil action commenced by C. Thomas Clagett, Jr., and others who were minority shareholders of the Laurel Harness Racing Association, Inc. (Laurel). Jurisdiction was predicated upon diversity of citizenship. The plaintiffs sought recovery of monetary damages from Richard H. Hutchison, Jr. (Hutchison), once the majority controlling common stockholder of Laurel, and the subsequent purchasers of all or a portion of Hutchison's controlling common stock.

In relevant part, plaintiffs alleged that through certain stock transfers, the various defendants had breached two of the fiduciary duties they owed to the plaintiffs as minority shareholders.

First. Plaintiffs charged that, under Maryland law, defendant Hutchison, in the sale of his controlling common stock to defendants, Steven Sobechko, James Sobechko and Joseph Shamy, an attorney, had a duty to investigate the ability of that group to manage Laurel and to make inquiry into their characters and financial stability. (Count I). The same duty was alleged to exist between the Sobechkos and Shamy in the subsequent transfer of a portion of their stock to defendant Mike Brown. (Count II). And finally, the same duty was alleged to exist between the Sobechkos, Shamy and Brown in their transfer of the controlling common stock to defendant Daniel J. Rizk. (Count III). ¹

Second. Plaintiff charged that, under Maryland law, Hutchison, as the majority controlling common shareholder of Laurel, owed a fiduciary duty to the minority shareholders, including plaintiffs, to afford to them an equal opportunity to sell their shares on the same terms and conditions which were offered to him. (Count I). In Count II as against Hutchison's purchasers the same duty was alleged, and the Sobechkos and Shamy were charged with aiding and abetting Hutchison's violation of the "equal opportunity" rule.

All six defendants moved to dismiss, arguing that the Complaint failed to state a claim upon which relief could be granted under Maryland law. F.R.C.P. 12(b). The district court held, on the facts of this case, that neither of plaintiffs' theories of recovery stated a claim upon which relief could be granted, and the suit was dismissed. Plaintiffs appeal, and we affirm.

I. FACTS

There is no dispute as to the facts. Laurel, a Maryland corporation, owned a harness racing track and operated harness race meets, pursuant to a license granted to it by the Maryland Racing Commission at Laurel, The actual stock transfer from Hutchison to the Sobechkos and Shamy occurred on May 12, 1975. The plaintiffs discovered the pending stock transfer just before it occurred through a news article on April 27, 1975.

                Maryland.  2  During the relevant time period of this suit, from October 8, 1974, through March 25, 1976, there were 125,000 shares of the common stock of Laurel issued and then outstanding which stock was held by approximately 300 stockholders.  The common stock of Laurel was thinly traded on the public market.  While defendant Hutchison was president of Laurel, he executed an agreement to sell his common stock to defendants Steven Sobechko, James Sobechko and Joseph Shamy for $43.75 per share.  At that time he owned a majority of Laurel's common stock or approximately 67,662 shares.  According to the Complaint, the then-prevailing market price for a share of Laurel common stock fluctuated between $7.50 and $10.00 per share.  On that same date, Hutchison allegedly caused the trio purchasing his stock to similarly extend the $43.75 per share offer to certain designated minority shareholders.  The plaintiffs were not included in the designated group to receive the beneficence of Hutchison.
                

Next, between May 12, 1975, and November 5, 1975, while Laurel was under the control of the Sobechkos and Shamy, some unspecified portion of their common stock was transferred to defendant Mike Brown. The foursome continued in control of Laurel.

Finally, on March 25, 1976, the Sobechkos, Shamy and Brown transferred their stock and the controlling majority of Laurel to defendant Daniel J. Rizk. This was the final stock transfer involved in this litigation.

Summarily, the plaintiffs sought recovery of monetary damages for the loss in value of their common stock in Laurel due to the alleged breaches of the duty to investigate and the breach of the equal opportunity rule.

II. THE DUTY TO INVESTIGATE

Plaintiffs contend that a majority shareholder who sells the controlling interest in a corporation owes a fiduciary duty to the minority shareholders to investigate the character, integrity, financial stability and managerial ability of the prospective purchasers where such a seller is in a position to foresee the likelihood that the purchasers will defraud, loot or mismanage the company. And, on appeal, plaintiffs point to four factual circumstances which they argue were of sufficient gravity to place a duty upon Hutchison to investigate the purchasers of his stock.

First, a significant premium was paid to Hutchison for the price of his stock. Second, the actual closing on the Hutchison-Sobechko-Shamy transaction was scheduled to take place at some time from six to twelve months following the execution of the stock purchase agreement. Third, the contract precluded any change in the financial condition of Laurel pending closing on the transaction between Hutchison and the Sobechkos and Shamy. Fourth, Hutchison arranged for certain designated minority shareholders, not including the plaintiffs, to have their shares purchased by the Sobechkos and Shamy. Plaintiffs have cited no Maryland state court decision squarely on point, but rely upon our decision in Swinney v. Keebler Company, 480 F.2d 573 (4th Cir. 1973). They argue that the four "suspicious circumstances" set forth above were sufficient to indicate a likelihood of fraud would exist if the transfer was completed from Hutchison to the Sobechkos and Shamy.

The defendants counter by arguing that under Maryland law, minority shareholders have no individual right to recover from former majority stockholders for any alleged breach or breaches of the duty to investigate. They argue that, in reality, the suit is one to recover for mismanagement of Laurel, and such a recovery can be Alternatively, defendants argue that even if there is a duty to investigate under Maryland law, under the facts in this case, the four suspicious circumstances set forth above were neither suspicious nor sufficient to place Hutchison on notice of the likelihood of fraud by the Sobechkos and Shamy.

obtained only by a direct suit by the corporation itself, or by having the interests of the corporation advanced in a stockholders' derivative action. ³

We adhere to our decision in Swinney, supra, and although we likewise have been unable to locate any Maryland state court decision directly on point, we believe the district court reached a correct result through its application of Swinney and its legal estimate of what the Maryland state courts would do if presented with this case. This suit was properly dismissed.

Under ordinary circumstances, a director or an officer of a corporation has the same right as any other stockholder to buy or to sell his stock. See Llewellyn v. Queen City Dairy, Inc., 187 Md. 49, 58-9, 48 A.2d 322 (1946); Swinney v. Keebler Co., 480 F.2d at 577. However, if, as this court noted in Swinney :

". . . the sellers of control are in a position to foresee the likelihood of fraud on the corporation, . . . or on the remaining stockholders, at the hands of the transferee, their fiduciary duty imposes a positive duty to investigate the motives and reputation of the would-be purchaser (or purchasers); and unless such a reasonable investigation shows that to a reasonable man no fraud is intended or likely to result, the sellers must refrain from the transfer of control."

480 F.2d at 578; McDaniel v. Painter, 418 F.2d 545, 547-8 (10th Cir. 1969).

Applying Swinney to the four circumstances set forth by plaintiffs which are alleged to be "suspicious", we hold that upon this record, they are insufficient to state a claim upon which relief could be granted.

First. While the price paid for Hutchison's shares was indeed a premium price, it was nevertheless a premium paid for the element of control of the corporation. McDaniel v. Painter, 418 F.2d at 548. The premium payment is further justifiable since Laurel was a commercial business subject to further development as an on-going business. Thus, the premium price paid to Hutchison cannot be said to be so unreasonable as to place him on notice of the likelihood of fraud on the corporation or the remaining stockholders. Swinney v. Keebler Co., 480 F.2d at 578-79; Insuranshares Corp. of Delaware v. Northern Fiscal Corp., 35 F.Supp. 22, 26 (E.D.Pa.1940). Finally, as a matter of logic, it seems farfetched to pay a 400% Premium for stock simply in order to acquire control of a corporation in order...