Dynamics Corp. of America v. CTS Corp.

• Decision Date: 16 April 1986
• Docket Number: No. 86 C 1624.,86 C 1624.
• Citation: 637 F. Supp. 389
• Court: U.S. District Court — Northern District of Illinois
• Parties: DYNAMICS CORPORATION OF AMERICA, Plaintiff, v. CTS CORPORATION, Robert D. Hostetler, Gary B. Erekson, Joseph DiGirolamo, George F. Sommer, Gerald H. Frieling, Jr., Don J. Kacek, Ted Ross, and Richard M. Ringoen, Defendants.

637 F. Supp. 389

DYNAMICS CORPORATION OF AMERICA, Plaintiff, v. CTS CORPORATION, Robert D. Hostetler, Gary B. Erekson, Joseph DiGirolamo, George F. Sommer, Gerald H. Frieling, Jr., Don J. Kacek, Ted Ross, and Richard M. Ringoen, Defendants.

No. 86 C 1624.

United States District Court, N.D. Illinois, E.D.

April 9, 1986.

On Motion to Certify Opinion for Immediate Appeal April 16, 1986.

Lowell Sachnoff, Dean A. Dickie, Sarah R. Wolff, Jeffrey E. Stone, Michael J. Kaufman and Thomas J. Bamonte, Sachnoff, Weaver & Rubenstein, Ltd., Chicago, Ill., for plaintiff.

Stephen C. Sandels, Gary L. Prior, Mark L. Yeager, J. Craig Busey, William P. Schuman and David Marx, McDermott, Will & Emery, Chicago, Ill., for defendants.

MEMORANDUM OPINION AND ORDER

GETZENDANNER, District Judge:

This action for declaratory and injunctive relief was originally filed to enjoin alleged violations of Section 14(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78n(a), and Rule 14(a) promulgated thereunder, for noncompliance with applicable SEC rules and misrepresentations in connection with the sending of proxy solicitations. Plaintiff Dynamics Corporation of America ("DCA") is a New York corporation with its principal place of business in Greenwich, Connecticut. Defendant CTS is an Indiana corporation with its principal place of business in Elkhart, Indiana. This court has jurisdiction over the matter pursuant to Section 27 of the Exchange Act, 15 U.S.C. § 78aa, and venue is proper because the defendants are found and transact business in this district.

DCA is the largest beneficial owner of common stock in CTS, owning approximately 9.7% of CTS' outstanding common stock. Individual defendants Robert D. Hostetler, Gary B. Erekson, Joseph DiGirolamo, George F. Sommer, Gerald H. Frieling, Jr., Don J. Kacek, Ted Ross, and Richard M. Ringoen are all members of the Board of Directors of CTS. Defendants Hostetler, Erekson, and DiGirolamo are also CTS officers. In the complaint, DCA accuses defendants of engaging in an ongoing plan to entrench themselves as current management through a series of "gun-jumping" proxy solicitations.

The same day it filed this action, DCA publicly announced its intention to make a partial tender offer for 1,000,000 CTS shares, which would give it approximately a 27.7% ownership position in CTS. DCA has indicated that it intends to use these shares to oust current management and elect its own candidates to CTS' Board of Directors at the Annual Meeting of CTS shareholders, scheduled for April 25, 1986.

DCA's tender offer predictably set off a series of defensive maneuvers by the CTS Board and a consequent expansion of the claims and controversies before this court. The sole issue before the court in this opinion is the constitutionality of the Indiana Control Shares Acquisitions Act, Indiana Code, 23-1-42 et seq., a statute which regulates the voting rights of shares acquired as a result of a tender offer or other share acquisition which results in an ownership position exceeding 20%. This statute is part of a series of amendments to the Indiana Business Corporation Law which were signed into law on March 4, 1986, and which are to become effective August 1, 1987. IND.CODE § 23-1-17-3(a). Section 23-1-17-3(b) of the statute, however, permits those corporations which so elect by resolution of the board of directors to be governed by the statute as of April 1, 1986. IND.CODE § 23-1-17-3. On March 27, 1986, the CTS Board of Directors by resolution made the new Act applicable to tender offers for CTS shares as of April 1, 1986.

That same day, and before April 1, 1986, CTS filed a declaratory judgment action in Indiana state court to have the control share acquisition provisions in IND.CODE § 23-1-42 declared valid and enforceable. On March 31, 1986, DCA filed its third amended complaint to add a new Count (Count VIII) directed to the new Act and moved for injunctive relief restraining defendants from attempting to enforce the Act in Indiana state court. Defendants represented at a court hearing on April 2, 1986 before Emergency Judge Milton Shadur that they would not take any action in connection with the state court proceeding pending a ruling by this court on the statute's validity and that therefore there was nothing to enjoin. It became apparent in the course of argument, however, that on March 31, 1986, CTS issued press releases referring to the Board's adoption of the new statute and the statute's effect on DCA's ability to vote its shares. Because those releases were arguably affecting DCA's ability to make a tender offer, the matter was scheduled for expedited ruling on a declaratory judgment motion. 28 U.S.C. § 2201.

The basis of DCA's request is that the Indiana Control Shares Acquisition Act violates the Commerce Clause, Article 1, § 8, cl. 3, and the Supremacy Clause, Article 6, cl. 2, of the United States Constitution. In particular, DCA argues 1) that the Act directly burdens interstate commerce; 2) that the Act's indirect burden on interstate commerce outweighs any putative local benefits; and 3) that the Act's timing provisions and procedural hurdles conflict directly with the Williams Act by favoring management and building extended delay into the process of making tender offers. CTS, in response, argues that the Act is a permissible exercise of state legislation to govern the internal affairs of a corporation and the relative voting rights of shareholders in Indiana corporations. In order to understand the nature of these challenges, a full explication of the statute is necessary.

Indiana Control Shares Acquisition Act

Sections 23-1-42-1 through XX-X-XX-XX of the new Indiana Business Corporation Law govern "Control Share Acquisitions," defined as the acquisition by a single entity of shares which give it more than 20 percent of the voting power with respect to shares of an "issuing public corporation." § 23-1-42-1. Shares acquired within a 90 day period are considered to have been acquired in a single transaction. § 23-1-42-2(b). The Act defines "issuing public corporation" as a corporation that has:

(1) one hundred (100) or more shareholders;

(2) its principal place of business, its principal office, or substantial assets within Indiana; and

(3) either:

(A) more than ten percent (10%) of its shareholders resident in Indiana;

(B) more than ten percent (10%) of its shares owned by Indiana residents; or

(C) ten thousand (10,000) shareholders resident in Indiana.

IND.CODE § 23-1-42-4(a). It is undisputed that CTS is an "issuing public corporation" within the meaning of the statute and that DCA's tender offer is a "control share acquisition" which triggers the Act's provisions.

Under the Act, shares acquired in a control share acquisition have voting rights only to the extent granted by resolution approved by the shareholders of the target corporation. In other words, the Act automatically strips the voting rights from such shares unless and until the shareholders resolve otherwise. In order for a tender offeror to regain the voting rights, the resolution must be approved by:

(1) each voting group entitled to vote separately on the proposal by a majority of all the votes entitled to be cast by that voting group, ... and

(2) each voting group entitled to vote separately on the proposal by a majority of all the votes entitled to be cast by that group, excluding all interested shares.

IND.CODE § 23-1-42-9(b) (emphasis added). "Interested shares" are defined as shares the voting of which is controlled by an acquiring person, any officer of the corporation, and any employee of the corporation who is also a director of the corporation. § 23-1-42-3.

An acquiror under the statute who seeks to avoid the above consequences may at its election deliver an "acquiring person statement" to the issuing public corporation setting forth certain specified information. § 23-1-42-6. If the acquiring person so requests at the time of delivery and undertakes to pay the corporation's expenses of a special meeting, the directors shall call a special meeting of shareholders for the purpose of considering the voting rights to be accorded the shares. If the offeror "so requests," the meeting "must not be held sooner than 30 days after receipt ... of the acquiring person statement" and the meeting can in any event be delayed up to 50 days after receipt. Otherwise, the voting rights to be accorded the control shares "shall be presented to the next special or annual meeting of shareholders." § 23-1-42-7(a)-(d).

If an acquiror fails to file an acquiring person statement, or if the shares are subsequently not accorded full voting rights, the corporation may, to the extent authorized by its bylaws or articles of incorporation, redeem the shares at their "fair value." If the shares are accorded full voting rights and the acquiring person has acquired a majority of all voting power, the shares may not be redeemed. Upon voter resolution approving the acquisition, the other shareholders have dissenters' rights which enable them to receive the fair value of their shares. "Fair value" as used in both subsections means "a value not less than the highest price paid per share by the acquiring person in the control share acquisition." § 23-1-42-11-(a) — (c).¹

Jurisdictional Issues

In its briefs filed before Emergency Judge Shadur opposing DCA's motions to amend its complaint and for preliminary relief regarding the Control Shares Acquisition Act, CTS argued that the anti-injunction act would bar DCA's request for relief; that this court lacks Article III jurisdiction for lack of ripeness; and that abstention under the doctrine of Railroad Commission of Texas v. Pullman Co., 312 U.S. 496, 61 S.Ct. 643, 85 L.Ed. 971 (1941) would be proper. Although Judge Shadur either expressly in open court or by clear implication ruled on these jurisdictional arguments when he granted DCA leave to amend its complaint, he also indicated at...