Schmidt v. Magnetic Head Corp.

• Decision Date: 14 November 1983
• Citation: 468 N.Y.S.2d 649,97 A.D.2d 151
• Parties: Herbert J. SCHMIDT, Jr. et al., Appellants-Respondents, v. MAGNETIC HEAD CORP., et al., Respondents-Appellants, et al., Defendants.
• Court: New York Supreme Court — Appellate Division

Page 649

468 N.Y.S.2d 649

97 A.D.2d 151

Herbert J. SCHMIDT, Jr. et al., Appellants-Respondents, v. MAGNETIC HEAD CORP., et al., Respondents-Appellants, et al Defendants.

Supreme Court, Appellate Division,

Second Department.

Nov. 14, 1983.

Berg & Duffy, Lake Success (James P. Duffy, III, William Cornachio, Lake Success and Donald F. Leistman, Stewart Manor, of counsel), for appellants-respondents.

Farrell, Fritz, Caemmerer, Cleary, Barnosky & Armentano, P.C., Mineola (Samuel S. Tripp, John P. Cleary and William V. Alesi, Mineola, of counsel), for respondents-appellants.

Lovejoy, Wasson, Lundgren & Ashton, P.C., New York City (Morton Apfeldorf and Martin S. Kaufman, New York City, of counsel), amicus curiae.

Before DAMIANI, J.P., and TITONE, LAZER, MANGANO and GIBBONS, JJ.

TITONE, Justice.

These appeals involve the interpretation and construction of a corporate shareholders agreement. Our primary concern is with the question of whether plaintiffs are entitled to designate a successor director in the place of their prior designee who has resigned. We are also called upon to determine whether the defendant directors are entitled to indemnification for legal expenses incurred in defending this action and whether the attorneys representing those directors should be disqualified on the basis of an alleged conflict of interest. As we shall explain, the plaintiffs have no right to designate a successor under the unambiguous terms of the agreement, the defendants may be indemnified, and disqualification is inappropriate. In addition, we reject the appealing defendants' challenge to the causes of action seeking reformation, rescission and return of moneys paid for indemnification.

On April 30, 1978, defendant Magnetic Head Corporation acquired MCP Corporation by exchanging 47.5% of its shares for all the shares of MCP. As a result of this transaction, plaintiffs Herbert and Barbara Schmidt, shareholders of MCP, became the owners of 45.8% of Magnetic Head stock, which was the largest shareholder interest in that corporation.

Nonetheless, the Schmidts did not obtain a controlling interest in the new corporate structure. In accordance with the terms of the shareholders agreement more fully discussed below, the Schmidts and the other shareholders designated James North, the Schmidts' attorney, Charles Rockwell, Magnetic Head's chairman of the Board of Directors, and Royce McKinley, President of Santa Anita Consolidated, Magnetic Head's largest preacquisition shareholder, as the holders of irrevocable proxies. The proxy holders elected North and the Schmidts to the Board of Directors as required by this agreement.

On April 30, 1981, North resigned both as a proxy holder and director and Herbert Schmidt thereupon attempted to designate one James P. Duffy as his successor. Those having a controlling interest in Magnetic Head claimed that Schmidt had no such right, and the remaining seven members of the Board of Directors refused to elect Duffy to the board. Instead, they chose one Edward Gleason to fill the vacancy.

The shareholders agreement limits the number of members of the board of directors to nine so long as the Schmidts own at least 30% of Magnetic Head's common stock. The sections of the agreement governing voting rights and successors read as follows:

"3. Voting Rights. On the date hereof, each shareholder shall sign an Irrevocable Proxy in the form annexed hereto as Exhibit Z, granting to the Proxy Holders the exclusive right to vote all Shares subject to the provisions of this Shareholders Agreement, or to give written consents in lieu of voting thereon, at their discretion for whatsoever purposes and in any and all proceedings, whether at meetings of the shareholders of the Company or otherwise, wherein the vote or written consent of shareholders of the Company may be required or authorized by law. It is expressly provided that during any period in which Herbert J. Schmidt, Jr. and Barbara B. Schmidt, and their associates are the holders of 30% or more of the common shares of the Company the Proxy Holders shall vote the Shares for the election of Herbert J. Schmidt, Jr., Barbara B. Schmidt and James North for election as directors and for determining the number of directors at not more than nine (9). During any period in which there are three Proxy Holders any action of the Proxy Holders may be exercised by a majority of the Proxy Holders. During any period in which there are only two Proxy Holders any action of the Proxy Holders shall be exercised jointly."

"4. Successors to the Proxy Holders. In the event of the resignation, incapacity or death of James North, one of the Proxy Holders, his successor shall be designated by Herbert J. Schmidt, Jr. by an instrument in writing duly acknowledged. In the event of the resignation, incapacity or death of Royce McKinley, one of the Proxy Holders, his successor shall be designated by Santa Anita Consolidated, Inc. by an instrument in writing duly acknowledged. In the event of the resignation, incapacity or death of Charles S. Rockwell, one of the Proxy Holders, his successor shall be designated by Magnetic Head Corporation by an instrument in writing duly acknowledged. Upon the designation of any successor Proxy Holders, the Shareholders shall sign and deliver to the Proxy Holders a new Irrevocable Proxy appointing the Proxy Holders then qualified to act, including the newly designated Proxy Holder. The rights, powers and privileges of each Proxy Holder shall be possessed by each successor Proxy Holder. In the event any successor named herein fails to accept the position of Proxy Holder or in the absence of the appointment of a successor, the Proxy Holders then acting shall possess all of the right, title and powers of the original Proxy Holders.

"In witness Whereof, the undersigned Shareholders have executed the Agreement and the Proxy Holders, to evidence their respective acceptance of the functions and duties of the Proxy Holders, have executed this Agreement, all as of the date and year first above written."

The other pertinent provisions of the agreement may be more briefly summarized. Section 2 vests the proxy holders with the right to exercise the voting power acquired by the shareholders of Magnetic Head under the Acquisition Agreement. Section 6 specifies that the agreement's duration is to be at least 5 years but no longer than 10 years. Section 7 authorizes the proxy holders to incur reasonable expenses and employ professional counsel in performance of their duties, which may be charged pro rata to the shareholders. Section 8 provides that each proxy holder is not disqualified from voting for himself to serve as an officer or director of Magnetic Head or any of its subsidiaries. Section 9 sets forth the mode and sufficiency of notice to proxy holders. Finally, section 10 requires that all certificates of stock subject to the shareholders agreement shall contain a legend indicating that the voting rights of the shareholder represented by the certificates can be exercised only by the holders of the irrevocable proxies appointed under such agreement. ¹

The Schmidts commenced this action shortly before Gleason was selected to fill North's vacancy on the board. Their complaint, resting upon numerous theories, sought, among other things, to compel Duffy's acceptance as a director.

On a motion to dismiss pursuant to subdivision (a) of CPLR 3211, Special Term sustained the causes of action seeking reformation, rescission and return of moneys paid to the defendants for indemnification ², but dismissed those for specific performance, construction and breach of the shareholders agreement. The court perceived no ambiguity in the agreement and, except for the prospect of reformation and rescission, regarded the relief sought to be precluded by the absence of an express provision for the appointment of a successor director. All the litigants but North and his law partners have appealed.

We begin with the causes of action for specific performance, construction of the shareholders agreement, and a declaration that the agreement has been breached. It is evident that they must stand or fall together inasmuch as they all derive from plaintiffs' claim that the agreement entitled them to select directors. Basically, it is plaintiffs' position that extrinsic evidence should be received because the failure of the agreement to delineate the succession of directors renders it ambiguous, particularly since they claim that they would not have limited their voting rights for up to 10 years without the right to replace North or themselves on the Board.

The threshold question of whether a writing is ambiguous "is the exclusive province of the Court" (Sutton v. East River Savings Bank, 55 N.Y.2d 550, 554, 450 N.Y.S.2d 460, 435 N.E.2d 1075). Our reading of the shareholders agreement compels us to conclude that there is simply no ambiguity with respect to the selection of a director in the event of a vacancy on the board (cf. Hartford Acc. & Ind. Co. v. Wesolowski, 33 N.Y.2d 169, 172, 350 N.Y.S.2d 895, 305 N.E.2d 907). Completely absent is any allusion to the procedure to be employed in the filling of such vacancy. An omission or mistake in a contract does not constitute an ambiguity (see Gearns v. Commercial Cable Co., 293 N.Y. 105, 109, 56 N.E.2d 67; Matter of Rivas' Trust, 100 N.Y.S.2d 357, 365; 4 Williston, Contracts [3d ed.], § 619, pp 742-743) and, as Justice LAZER observes in his concurring opinion, the question of whether an ambiguity exists must be ascertained from the face of the agreement without regard to extrinsic evidence (Breed v. Insurance Company of North America, 46 N.Y.2d 351, 355, 413 N.Y.S.2d 352, 385 N.E.2d 1280; Facet Industries v. Wright, 95 A.D.2d 262, 266, 465 N.Y.S.2d 941).

It is fundamental that courts enforce contracts and do not rewrite them (Grace v. Nappa, 46 N.Y.2d 560, 565, 415 N.Y.S.2d 793, 389 N.E.2d 107; Rodolitz v....