Kors v. Carey

• Decision Date: 18 February 1960
• Citation: 39 Del.Ch. 47,158 A.2d 136
• Parties: Bertha KORS, Plaintiff, v. Paul CAREY, James M. Boohecker, Chandler Cudlipp, David M. Freudenthal, James W. Newman, Edward Plaut, Walter N. Plaut, Walter E. Sachs, B. A. Tompkins, United Whelan Corporation and Lehn & Fink Products Corporation, Defendants.
• Court: Court of Chancery of Delaware

Page 136

158 A.2d 136

39 Del.Ch. 47

Bertha KORS, Plaintiff, v. Paul CAREY, James M. Boohecker, Chandler Cudlipp, David M Freudenthal, James W. Newman, Edward Plaut, Walter N. Plaut Walter E. Sachs, B. A. Tompkins, United Whelan Corporation and Lehn & Fink Products Corporation, Defendants.

Court of Chancery of Delaware, New Castle County.

Feb. 18, 1960.

William E. Taylor, Jr., Wilmington, and Louis Kipnis, New York City, for plaintiff.

Robert H. Richards, Jr., of Richards, Layton & Finger, Wilmington, and Patterson, Belknap & Webb, New York City, for defendant, Lehn & Fink Products Corp., and the individual defendants.

Berl, Potter & Anderson, Wilmington, and William M. Kaplan, New York City, for defendant, United Whelan Corp.

MARVEL, Vice Chancellor.

The complaint herein as amended not only charges the directors of Lehn & Fink Products Corporation with the allegedly improper act of using corporate rather than personal funds for the purchase of 60,200 shares of Lehn & Fink stock from United Whelan Corporation as well as the separate corporate act of purchasing the assets of National Laboratories, Inc. at an excessive price, but also complains of collusive dealings between representatives of these two corporations in negotiating and consummating the stock purchase under attack. However, plaintiff conceded at trial that she would be unable to sustain her charge of collusion and further agreed to the dismissal of her cause of action concerning the purchase of the assets of National Laboratories, Inc. Thus, plaintiff's case at trial was confined to efforts to establish that the action of the Lehn & Fink directors in negotiating and consummating the purchase with corporate funds of 60,200 shares of their corporation's stock was legally improper. United Whelan, having in the meantime not only answered but cross-claimed, remains in the case as an active litigant seeking affirmative relief on its cross-claims. On a first cross-claim based on an allegation of fraud it seeks rescission of the stock sale to Lehn & Fink together with damages. It takes the position that a second cross-claim based on an alleged partial failure of consideration for the controversial purchase and sale of Lehn & Fink stock should be stayed pending disposal of plaintiff's New York suit for damages brought under § 16(b) ¹ of the Securities Exchange Act of 1934, and in a third cross-claim it seeks damages from the individual defendants for their alleged breaches of fiduciary duty in concealing the identity of their corporation as the actual purchaser of the 60,200 Lehn & Fink shares held by United Whelan.

The transaction which plaintiff attacks and which the seller seeks to rescind resulted from a contract consummated in February 1958 in which Lehn & Fink's identity was not disclosed. The contract provided for the purchase and sale of 60,200 shares of Lehn & Fink at $28 per share. The other basic financial facts about the transaction are as follows. On February 3, 1958, the date of the contract, Lehn & Fink stock was selling in small lots on the New York Stock Exchange at $25 1/2 per share, and at $26 1/4 per share on the date of consummation of the sale. A brokerage fee of fifty cents was paid on each share so acquired. Since the purchase complained of the shares in question have been retained by the corporation as treasury stock. In recent months issued shares of stock of Lehn & Fink have been traded on the New York State Exchange at prices ranging from $45 per share to $48 per share.

Plaintiff contends that the Lehn & Fink purchase of its own shares was not only not made for a proper corporate purpose but was improperly consummated at an unreasonable price per share approximately 10% in excess of the market in a transaction which involved the spending of allegedly excessive amounts for a brokerage commission, legal fees and other outlays connected with the decision to eliminate the threat to management posed by United Whelan's ownership of a substantial block of Lehn & Fink stock. In order to consummate the purchase moneys were borrowed, but at the same time the number of issued shares outstanding was reduced and dividend requirements curtailed. However, as plaintiff points out, as a result of the transaction Edward Plaut's position as a large stockholder of Lehn & Fink (at present he holds 66,621 shares) was substantially enhanced percentagewise.

Plaintiff seeks an accounting for the loss allegedly caused the corporation as a result of the purchase complained of, and while also praying for an order requiring the corporation to sell the stock in question, did not either at trial or in her briefs picture such ultimate relief as immediately desirable.

Lehn & Fink Products Corporation is an established manufacturer of cosmetics and household drugs. It makes a number of popular cosmetics under the trade names of Dorothy Gray and Tussy as well as a disinfectant known as Lysol, which products are distributed by independent retail drug stores and drug store chains to which Lehn & Fink makes direct sales. One of Lehn & Fink's principal outlets is the fashionable firm of Lord & Taylor.

As of March 16, 1956, United Whelan had acquired 5,800 shares of the capital stock of its supplier, Lehn & Fink. By December 1956 United's holdings had risen to 20,100 registered shares together with a substantial block held in street names. Record holdings by United of such stock continued to rise to a total of 45,600 shares by March 1, 1957, at which point concern of Lehn & Fink's management about such holdings had increased to the point that in the absence from the country of Lehn & Fink's president, Edward Plaut, David M. Freudenthal, a director, conferred with United's president, Charles Green, who indicated that United's fixed policy was to eschew ordinary retail cosmetics business methods for the more immediately remunerative one of dealing with manufacturers on special terms, thus reasserting a controversial business policy ² which had been aimed at but resisted by Lehn & Fink in the past. No demand was made by Green for board membership or the like, however, no form of working agreement between Lehn & Fink and its supplier was reached, and meanwhile United continued to accumulate Lehn & Fink stock until at the end of 1957 it held 60,200 shares or approximately 16% of the 400,000 shares of issued and outstanding stock of such corporation.

United Whelan, a substantial customer of Lehn & Fink's, operates a large chain of drug stores, many of its newer ones being operated on a self-service basis. The chairman of its board and its largest stockholder, Charles Green, has waged a number of proxy fights against the managements of a variety of business enterprises, in several of which, including a 1951 one for control of United Whelan, he had been successful. While his purpose in causing United Whelan to buy Lehn & Fink stock was not fully disclosed to United's stockholders until enough of the former's stock had been accumulated to cloak United's bid for power with authority, his actual purpose in buying heavily into Lehn & Fink, namely to gain control, was conceded by Mr. Green at trial. ³

The individual defendants have advanced a number of reasons for their decision to acquire United Whelan's stock, including the unlikely one of a desire to have stock available for the acquisition of desirable business assets notwithstanding the existence of 600,000 authorized but unissued shares which could be utilized for such a purpose. I conclude after consideration of the testimony and an examination of the material exhibits adduced at trial that the real basis for the decision to eliminate United as a stockholder (a decision which crystalized slowly but which was apparently inevitable as early as mid-1956 when United Whelan's steady accumulation of Lehn & Fink stock became obvious) is found in a fundamental divergence in these two corporations' business policies. The record clearly demonstrates that no middle ground for accommodating the views of United Whelan with those of the incumbent management of Lehn & Fink could possibly be found. It was accordingly apparent very early in the game that one or the other of these two opposing forces must necessarily give way either voluntarily or as a result of a battle for control, and what appear to me to be the compelling reasons for the decision to buy out United find their roots in a firm resolve to preserve management policy and independence and an established relationship with customers as such had been developed over the years by past and present directors of Lehn & Fink. For instance, it is contended by the individual defendants, and there is evidence to sustain the contention in principle, that for a substantial customer of Lehn & Fink to have continued to hold a large number of shares of stock of that corporation would have tended to alienate Lehn & Fink's other chain store customers, who, it is claimed, must in order to survive, avoid dependency on the whims of a competitor for adequate supplies of name cosmetics for the promotion of which substantial sums of money have been committed. A variation of this same fear of customer dissatisfaction is found in the views of the directors of Lehn & Fink's that United Whelan did not measure up to Lehn & Fink either in its finished product or in business principles, and that to have United's voice dominant in the affairs of Lehn & Fink would inevitably not only be injurious to the latter's sales but would, because of Green's aggressive principles, which emphasize flexibility and experimental change in corporate purpose, perhaps threaten Lehn & Fink's very existence as an expanding manufacturer of high quality cosmetics. Lehn & Fink's directors were also concerned not only about the chance of being led into a course of conduct involving possible violations of the Robinson-Patman Act by reason of United's insistence on special promotional schemes but also about...