Yeng Sue Chow v. Levi Strauss & Co.

• Decision Date: 24 June 1975
• Citation: 122 Cal.Rptr. 816,49 Cal.App.3d 315
• Court: California Court of Appeals Court of Appeals
• Parties: YENG SUE CHOW, Individually and as Executrix of the Estate of Arthur Chow, Deceased, Plaintiff and Appellant, v. LEVI STRAUSS & CO., etc., Defendant and Respondent. Civ. 34820.

Page 816

122 Cal.Rptr. 816

49 Cal.App.3d 315

YENG SUE CHOW, Individually and as Executrix of the Estate of Arthur Chow, Deceased, Plaintiff and Appellant, v. LEVI STRAUSS & CO., etc., Defendant and Respondent.

Civ. 34820.

Court of Appeal, First District, Division 2, California.

June 24, 1975.

Hearing Denied Aug. 20, 1975.

Charles F. Wong, Stuart R. Dole, Leonard & Dole, San Francisco, for plaintiff and appellant.

Lloyd W. Dinkelspiel, Jr., M. Laurence Popofsky, Douglas M. Schwab, Heller, Ehrman, White & McAuliffe, Willard L. Ellis, Ellis & Levy, San Francisco, for defendant and respondent.

KANE, Associate Justice.

This is an appeal from a summary judgment granted in favor of respondent in an action brought for rescission of a stock repurchase option and for restitution. The relevant facts of the case are not in dispute and may be summarized as follows:

Appellant is the widow and executrix of the estate of Arthur Chow, deceased ('Arthur'). Arthur was employed by Levi Strauss & Co. ('the Company') from 1959 until his death on May 27, 1970. During the period of his employment Arthur acquired 11,295 shares of the Company's common capital stock under employee stock purchase plans. Under these plans key employees were allowed to purchase the stock on favorable terms, but at the same time granting a repurchase option to the Company in case they intended to resell or otherwise dispose of the shares or in the event of termination of their employment. Thus, all the shares acquired by Arthur were subject to the repurchase option under which the Company was entitled for a period of 30 days after Arthur's death to buy them back at book value. ¹

Shortly after Arthur's death, on June 4, 1970, the Company duly exercised its option right and, by an agreement entered into on August 27, 1970, it repurchased 75 percent of the shares owned by Arthur while permitting appellant to retain 25 percent of the shares. The argeement of the parties was thereafter executed as follows: On October 27, 1970 the Company forwarded its check for $76,641.75 to appellant, and on February 3, 1971, it tendered the balance due upon the purchase of the shares and in return appellant transferred 8,471 shares to the Company.

While it is unarguable that, at the time of Arthur's death, the exercise of the option and the implementation of the terms of the repurchase agreement, the Company was still a closely held corporation, appellant seeks to make her case on the fact that beginning in October 1969 the Company engaged in consideration and discussions about possible public financing of the Company. Thus, on October 23, 1969, the Company's executive committee resolved that In the event the Company's stock should be public traded, the repurchase options would be eliminated or modified so that no employee would be required to sell his stock to the Company at less than the prevailing market price. All the stockholders were advised of this resolution by a letter dated November 3, 1969. In May 1970 the Company commenced concrete discussions with its investment bankers regarding the possibility of a public offering. These discussions culminated on October 19, 1970 when the full board of the Company approved the public offering. At the same meeting the board of directors declared a conditional moratorium on the exercise of the repurchase options. The Company filed its registration statement with the Securities and Exchange Commission on January 21, 1971. The public offering was in fact consummated, and on March 3, 1971, the public trading of the Company's stock began. At the same time the repurchase options were extinguished.

The public trading of the Company's stock proved to be highly successful. The offering price published in the prospectus was $47 per share, and the initial sales price exceeded $50 per share and remained above the $50 level through April 1971. Although appellant gained a substantial profit on reselling the shares to the Company at book value, ² she instituted this action based upon allegations of fraud to rescind the repurchase option agreement, and to recover $713,000 compensatory damages and $500,000 punitive damages. In the summary judgment procedure initiated by respondent in the court below appellant abandoned the theory of fraud and instead claimed that she was entitled to rescission on the ground that the Company allegedly waived and released its right to exercise the option.

On appeal, appellant once again changes her theory of recovery. ³ While still maintaining that the October 23, 1969 resolution of the board of directors should be interpreted as a waiver or release of the option right of the Company, appellant advances the new argument that the summary judgment should be reversed primarily for the reason that the repurchase option in issue is invalid and ineffective. For the reasons which follow we are unable to accept appellant's contentions and affirm the judgment.

Validity of Repurchase Option: It has been well established both in California and elsewhere that while a corporate by-law may not place an unreasonably restrictive curtailment on the right of alienation, nor may it otherwise unreasonably deprive a shareholder of substantial rights, a by-law reserving a right of first refusal in other shareholders or in the corporation does not violate either of those prohibitions (Tu-Vu Drive-In Corp. v. Ashkins (1964) 61 Cal.2d 283, 286, 38 Cal.Rptr. 348, 391 P.2d 828; see also Vannucci v. Pedrini (1932) 217 Cal. 138, 17 P.2d 706; Groves v. Prickett (9 Cir. 1970) 420 F.2d 1119; Ryan v. J. Walter Thompson Company (D.C.1971) 322 F.Supp. 307; O'Neal, Restrictions on Transfer of Stock in Closely Held Corporations: Planning and Drafting (1952) 65 Harv.L.Rev. 773, 777). Accordingly, the courts have uniformly upheld and enforced first option provisions in corporate charters or by-laws whereby the shareholder is required to afford the corporation, his fellow-shareholders, or both, an opportunity to buy before he is free to offer his stock to outsiders (Allen v. Biltmore Tissue Corporation (1957) 2 N.Y.2d 534, 161 N.Y.S.2d 418, 422, 141 N.E.2d 812, 815; Cicero Industrial Development Corp. v. Roberts (1970) 63 Misc.2d 565, 312 N.Y.S.2d 893, 899).

The policy reasons underpinning the restriction of alienation of corporate assets in closely held corporations are manifold. Stock repurchase agreements, which merely delay a transfer of corporate shares rather than forbid it, serve a variety of purposes. They are an important device available to the shareholders who seek to protect their interest in the value of the corporation, and assure that upon the death or withdrawal of a participant the remaining shareholders will be able to control the corporation by preservation of veto power and by exclusion of competitors who might be desirous of disrupting the successful operation of the corporation (Ryan v. J. Walter Thompson Company, supra, at pp. 312--313; 7 Cavitch, Business Organizations (1971), § 148.02, pp. 925--926). As our Supreme Court succinctly stated in Tu-Vu Drive-In Corp. v. Ashkins, supra, 61 Cal.2d at page 287, 38 Cal.Rptr. at page 350, 391 P.2d at page 830: 'Bylaws restricting transfer in closed corporations are frequently assential to a successful enterprise; they perform an important function in Precluding unwanted intrusions by outsiders; they preserve the integrity of the functioning entity. Such bylaws are 'necessary for the protection of the corporation and its stockholders against rivals in business or others who might purchase its shares for the purpose of acquiring information which might thereafter be used against the interests of the company. . . . '' (Emphasis added.)

At the same time stock repurchase agreements also serve the interests of the individual participants who are under a duty to resell their shares to the company at a fixed rate. It is a matter of common knowledge that in most instances there is no easily ascertainable market value for the shares of closely held corporations. As a consequence, the various formulae set for determining the option price (e.g., book or appraisal value, par value) provide the participant or his heir an Assured market at a fixed price for the stock in the event of death, retirement or other termination of interest in the corporation (Allen v. Biltmore Tissue Corporation, supra, 161 N.Y.S.2d at p. 424, 141 N.E.2d at p. 817). As has been aptly noted, 'If a repurchase plan were not in effect, the widow might find it impossible to sell her shares in the open market, and thus might be forced to sell to the surviving shareholders at an unreasonably low price, if they would purchase her stock at all.' (Close Corporation Stock Repurchase Agreements, 11 W.Res.L.Rev. 278, 290; see also 7 Cavitch, Business Organizations, supra, at p. 927, fn. 6.)

Notwithstanding the foregoing established law, appellant advances the novel argument that we should differentiate between stock repurchase agreements contained in corporate charters or by-laws which bind all the shareholders, and the first refusal options which are included in individual contracts and binding only on the employees who intend to buy corporate shares. Appellant insists that while the stock repurchase agreements may be upheld where they have been freely entered into among shareholders possessing equal bargaining power, the employee first refusal options should be invalidated because they are lacking in mutuality, constitute so-called adhesion contracts which are imposed upon employees by the employer possessing superior bargaining power and because they are the result of indirect coercion. We profoundly disagree with appellant and reject her unfounded contentions.

Preliminarily, it must be pointed out that the suggested differentiation between the two types of repurchase agreements is entirely artificial and lacks any support in law or reason. By definition, 'A stock repurchase agreement is a contract between a...