Mid-Continent Telephone Corp. v. Home Telephone Co.

• Decision Date: 28 September 1970
• Docket Number: No. DC 6924.,DC 6924.
• Citation: 319 F. Supp. 1176
• Parties: MID-CONTINENT TELEPHONE CORPORATION, Plaintiff, v. HOME TELEPHONE COMPANY, Lon J. Darley, Rex B. Darley, and Union Telephone Company of Mississippi, Inc., Defendants.
• Court: U.S. District Court — Northern District of Mississippi

319 F. Supp. 1176

MID-CONTINENT TELEPHONE CORPORATION, Plaintiff, v. HOME TELEPHONE COMPANY, Lon J. Darley, Rex B. Darley, and Union Telephone Company of Mississippi, Inc., Defendants.

No. DC 6924.

United States District Court, N. D. Mississippi, Delta Division.

September 28, 1970.

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George H. Butler, Lawrence J. Franck, Jackson, Miss., Edward F. Whipps, Columbus, Ohio, for plaintiff.

Robert H. Weaver, John Stennis, Jr., Jackson, Miss., Charles H. Ryan, Monroe, La., for Home Telephone Co., and Union Telephone Co.

Ross L. Franks, Hernando, Miss., for the Darleys.

MEMORANDUM OPINION

KEADY, Chief Judge.

Following a determination of plaintiff's right to maintain this action,¹ a full evidentiary hearing was conducted before the court without a jury. After submission of memorandum briefs, the case is now ripe for decision upon its merits.

Plaintiff, Mid-Continent Telephone Corporation (Mid-Continent), is an Ohio corporation that is the parent of a large independent telephone company system. This system, in addition to the plaintiff, consists of a group of approximately 35 operating subsidiaries providing telephone and communication service in 11 states. Defendant, Home Telephone Company (Home), is a Mississippi corporation, which was incorporated in 1947. Prior to its incorporation, Home had been operated as the sole proprietorship of Lon Darley. Home was a family-held corporation, having 2000 shares of outstanding common stock owned by the Lon Darley family as follows: Lon Darley 1490 shares; Rex Darley, a son of Lon Darley, 360 shares; Lon Darley, Jr., Howard Darley, also sons of Lon Darley, and Ben Mitchell, stepson of Lon Darley, 50 shares each. Home also had issued and outstanding 398 shares of 5% preferred stock of $10 par value which was held by 43 individuals.²

The defendant, Union Telephone Company (Union), became incorporated under Mississippi law on March 21, 1969, and its president is Clarke Williams, who is also president of Central Telephone and Electronics, Inc. (CT&E), the parent company and owner of all of the outstanding stock of Union.

Lon Darley and his son, Rex Darley, who owned over 90% of Home's common stock, controlled and directed the affairs of the company, and Lon Darley alone made all of the important management decisions. Home's officers consisted of Lon and Rex Darley and their wives, and its directors were persons selected and named by Lon Darley. The stockholders and board of directors of Home held only irregular meetings; the action taken at such meetings was ordinarily dictated by Lon Darley. The business operations of Home consisted of rendering exclusive telephone service to a portion of northern Mississippi adjacent to Shelby County, Tennessee. In the late 1950's and 1960's a portion of this service area experienced a very rapid growth in both residential and commercial population. This necessitated recurring expansion of telephone facilities, for which Home encountered difficulty in financing after REA largely withdrew from the field. As early as 1965 Lon Darley, having explored the problems likely to be encountered in additional capital financing, began to consider the possibility of a sale of Home to a larger telephone company. In May 1967, Lon Darley advised his stepson, Ben Mitchell of New York City, who was experienced in stock market and financial matters, of his interest in merging with a major telephone company in exchange for stock that would provide adequate income. Mitchell communicated this information to New York stock brokers who advised Weldon Case, president of Mid-Continent, that Home might be interested in selling its business to Mid-Continent.

In due course, Norman Weston, Mid-Continent's vice-president, contacted Lon Darley with a view to Mid-Continent's acquisition of Home. Negotiations by correspondence and personal meetings took place over an extended period of time beginning in July 1967 and continuing through the fall months of 1968. The Darleys investigated Mid-Continent and discussed with various bankers and stock brokers the prospect of a sale of Home in exchange for Mid-Continent's common stock. The Darleys were particularly impressed with Mid-Continent's financial resources, its practice of promoting a measure of autonomy through local directors and officers in an acquired company, its reputation for providing adequate customer service, and its policy for having good employee relations, including a satisfactory employees' retirement program. Lon Darley was not interested in a cash sale but wanted to effectuate a tax-free stock exchange. He so advised Weston at the outset, and they began to negotiate on the basis of Home's common stockholders receiving Mid-Continent stock in lieu of cash. Tax-free acquisitions were common in the independent telephone industry, a fact of which the Darleys were well aware. Mid-Continent had successfully concluded 22 acquisitions with independent telephone companies, the great majority of which involved a tax-free stock exchange.

Weston advised Lon and Rex Darley that for the exchange to be tax-free, Mid-Continent and Home would have to obtain a favorable ruling from Internal Revenue Service and it would become necessary to submit to IRS a plan of corporate reorganization of Home. Weston stated that this plan of reorganization would have to be worked out between the attorneys for Mid-Continent and the attorneys for Home, and from Mid-Continent's experience in similar acquisitions IRS approval could be expected within 120 days after submission of the plan. Weston and the Darleys briefly discussed the outstanding preferred stock and concluded it did not present a problem to the exchange because of the small number of shares outstanding. The approval of state and federal regulatory bodies was also discussed as a condition for merger, but these and other steps could be completed by the time IRS approval was obtained and the merger with stock exchange might then be completed without any delay.

At no time in these preliminary discussions was it mentioned that the Mid-Continent stock to be distributed would be stock registered with the Securities and Exchange Commission. In fact, such registration, which is a lengthy and expensive procedure, was outside the contemplation of the parties. The usual and customary procedure in tax-free transactions was for the acquiring corporation to issue unregistered stock as a "private placement" exempt from registration requirements. However, Weston specifically advised that the Darleys would acquire Mid-Continent stock listed on the New York Stock Exchange where it was daily traded, but Lon and Rex Darley would be required by law to sign a letter indicating an intent to hold their shares for investment purposes, and not for distribution, for a certain length of time and, since he was not an expert on such matters, they, the Darleys, should consult their own attorney or tax advisor as to what restrictions might exist in case of the Darleys' sale of Mid-Continent stock. No exceptions were taken or questions raised by either Lon Darley or Rex Darley as to these matters, nor did they immediately seek professional advice. Lon Darley was primarily interested in the number of Mid-Continent's shares to be received in exchange and the resulting dividend income, but he was also concerned that his son, Rex Darley, receive a satisfactory employment contract to manage Home and that Home's employees be continued in their retirement program.

After studying Home's latest balance sheet and operating statements, Weston indicated that he was ready to make a firm proposal, and Lon Darley invited him to do so. Accordingly, on October 29, 1968, Weston submitted a written offer by which Mid-Continent proposed to acquire Home (its assets and liabilities) upon an offered consideration of 56,000 shares of Mid-Continent common stock to be distributed to Home's five common shareholders on a tax-free basis. This offer, which was made at Olive Branch, Mississippi, was rejected by Lon Darley because he deemed 56,000 shares to be an insufficient consideration.

About a week later, Weston submitted to Lon Darley a second written offer, which was identical in form with the prior one, except that the proposed consideration was increased to 60,000 shares of Mid-Continent stock. Lon Darley discussed the offer with his son, Rex, and his stepson, Ben Mitchell. He had authority from all common stockholders, other than Rex Darley, to bind Home in such transaction as he might approve. After this second proposal, Lon and Rex Darley sought a meeting at Hudson, Ohio, with Weston and other Mid-Continent officials and advised that 60,000 shares were still inadequate. At this meeting the figure of 64,000 shares of Mid-Continent stock was finally agreed upon. Weston immediately prepared a letter, using a standard form followed by Mid-Continent in similar acquisitions, in which he set forth the new proposal in substantially the same form as the two prior offers which had been rejected. This letter read as follows:

"* * * The purpose of this letter is to put in writing the terms and conditions of an agreement that we would propose to enter into with your company, which we hope you will approve and recommend to your shareholders.

We hereby offer to enter into an agreement to acquire for transfer to a new subsidiary of Mid-Continent the assets and liabilities of the Home Telephone Company on such basis as will permit a tax-free distribution to your common shareholders of 64,000 shares of the common stock of Mid-Continent Telephone Corporation."³ (Emphasis added)

This letter, which was addressed to Home's Board of Directors, was presented to Lon Darley and he was requested to accept it as Home's president. This he did by signing at the signature space provided at the end of the proposal. At Weston's request, Rex Darley also indicated his...