Ryan v. Leavenworth, Atchison & Northwestern Railway Co.

The opinion of the court was delivered by Horton, C. J.: The first and most important inquiry in this case is, whether upon the allegations of the amended petition the contract made by Len. T. Smith, in the name of the Missouri River railroad company, with A. Caldwell, for the construction of the railroad of that company from Wyandotte to Leavenworth, was fraudulent and void? If fraud- . ulent and void, the next inquiry is, are the plaintiffs, who are stockholders in the Leavenworth, Atchison & Northwestern railroad company, in a position to maintain this suit? In answering and passing upon these inquiries, and matters incident thereto, we will consider whether the petition states facts sufficient to authorize the plaintiffs to maintain their action, and, also, all the material points presented in the arguments of counsel. statement or facts. The allegations of the petition in relation to the alleged fraudulent contract for the construction of the railroad of the Missouri River railroad company, are substantially as follows: The capital stock of the company was originally only $200,000. On May 13th, 1865, the stock was increased to $1,000,000. To the original capital stock there was subscribed on or about April 6th, 1865, the sum of $48,500. Of this sum, $970 was paid at the time, and nothing has ever been paid thereon since. In May, 1865, the city of Leavenworth, under authority of law, subscribed $250,000 to the stock of the company, and, in June following, issued $250,000 in bonds, paid its subscription, and received its certificate of stock. In July, 1865, the county of Leavenworth, under like authority, subscribed $250,000 more to the stock of the company, issued $250,000 of its bonds, paid the subscription, and received its stock certificates. After the city and county had paid for their stock, an association, composed of Thomas A. Scott and fourteen other persons, agreed among themselves, if they could complete the arrangements, to build the road on- the following terms, viz.: For the bonds issued by the county and city of Leavenworth in payment of their stock, being $500,000 in all, if $300,000 of these were cashed at par by citizens of Leavenworth, for $700,000 in stock of the railroad company and $500,000 in bonds of the company. The road when completed was to be leased to the Missouri Pacific company, most of whose officers and directors, with other officers of prominent railroads, were engaged in this association or copartnership. In pursuance of this agreement with each other, Thomas A. Scott and A. Caldwell appeared before the board? of directors, two of whom were members of the said association; and offered on behalf of themselves and their associates, whose names were concealed, to build the road on the terms above stated, and as agreed upon among the copartners. At the meeting only a bare quorum was present, and two of the quorum, Smith and Gruber, were president and treasurer of the company, and at the same time members of the partnership seeking to obtain a contract to build the road, and among the concealed associates for whom Scott and Caldwell made the proposal. The board of directors, at said meeting referred the matter to Smith, the president and a member of the partnership, and authorized him to make a contract for building the road. To conceal the nature of the transaction, it was agreed among the partners that the contract should be in the name of A. Caldwell, but that the others should be secret partners with him, and their interest concealed from public knowledge. The name “A. Caldwell” was used' for the firm, and in that name the contract as originaíly talked over among the partners, and as agreed upon by them, was executed on the part of the partners with Smith, also one of the partners, but acting as president and agent of the railroad company. To conceal the character of the transaction, Caldwell transferred the contract to D. R. Gar- ' rison & Co., and under the latter name the work was done. This transfer was merely colorable; the work was performed, expenses paid and profits divided by Caldwell and his partners. D. R. Garrison & Co. represented Caldwell and his associates. Before anything had been done in per- . formance of the contract on the part of the partner’s, $700,-000 in stock of the company was issued to Caldwell and his associates without other consideration than said contract. Of this stock, $200,000 was in excess of the capital stock of the company, as $500,000 of stock had been issued previously to Leavenworth county .and city, and the capital stock was only $1,000,000. This stock was issued prior to the January election of 1866, and at that election was voted on. Afc this election Thomas A. Scott, Alexander Caldwell, Len. T. Smith, E. H. Gruber, Daniel R. Garrison, Charles H. Peck, Oliver A. Hart and Thomas L. Price, members of said co-partnership, and all interested in said contract, together with Charles N. Palmer, Alexander McDonald and M. S. Grant, were elected directors of the corporation, L. T. Smith was reelected president., and E. H. Gruber elected secretary. About January 1st, 1866, before the work of construction had been commenced, the bonds of the company to the amount of $500,000 were issued to Caldwell and his partners, secured by a first mortgage on the road and .all the property of the. company, on hand or to be acquired, Caldwell being the trustee in the mortgage. After the copartnership had thus obtained control .of the corporation, and had within its members a majority of the directors, the construction of the railroad between Wyandotte and Leavenworth was commenced, and a road about nineteen miles in length built, at a cost not exceeding $500,000: Not includ- ' ing the value of $700,000 of the stock of the corporation issued to the partners, the members of this copartnership, without the use of any means of their own other than that gathered by their arts from the city and county of Leavenworth and the corporation, realized over $400,000 in their construction of the road. With' $250,000 of this money they paid for 92,598-j^- acres of land, worth $14 per acre, known as the Delaware Diminished Reserve, which lands, under a treaty ratified August 10th, 1866, the said railroad corporation had the precedent right to purchase at $2.50 per acre. The president of the corporation, with intent to deprive'his company of the benefits to accrue from completing the purchase of said lands, and fraudulently to obtain the same for the partnership, made a conveyance of these lands to Caldwell, in the name of his corporation, without consideration, and. as such president induced the secretary of the interior to issue the patent for them to Caldwell. The sum of $165,000, arising from the sale of some 8,000 acres of these lands, was divided among the original partners, and the balance of the land disposed of among the same persons. It is further alleged in the petition, that after the said partnership was formed, and before the execution of the contract for the construction of 'the road, certain persons, who were responsible, and able to give good security for the performance of their contract, made an offer in writing to the president and treasurer of the corporation to do the clearing, grubbing, grading, masonry and track-laying of the entire road, and furnish materials therefor, for $300,000; (had'this been done, the whole cost of the road would not have exceeded $18,000 per mile;) .that the said partnership was formed and the construction contract made with the intent, of the members of the firm, who were officers and directors of the corporation, and of such as. immediately afterward became directors and officers of the corporation, and of those jointly interested with them in the contract, to depreciate and render valueless the stock owned by Leavenworth county and city, .to defraud said stockholders of their property, and to acquire for the partners so associated together the. control of the corporation and all its effects; that the more favorable proposals from other parties were rejected, and the terms of the contract so unfavorable to the corporation, agreed upon to defraud the latter, and carry out the purposes and plans of the conspirators. í Directors of a pSyagente corporate affairs, not to the™ plivate^01' advantage. In view of these statements, we can arrive at no other rational conclusion, than that the said contract, executed by Smith, on the part of the Missouri River railroad company, and A. Caldwell, for himself and -his partners, was a gross fraud upon that corporation, and upon its stockholders who were not interested in the contract. This- contract was secured through the votes and influence of members of the directory, who were directly interested in the procurement of such contract; and the president of the corporation, in executing the same, while nominally representing the corporation, Was really acting adverse to its interests and the interests of its stockholders, and in the promotion of gain to himself and his copartners. • The elementary text-books' of authority on the subject of corporations lay down the rule, that the fiduciary character of directors is such, that the law will not permit them to manage the affairs of the corporation for their personal and private advantage, when their duty would require thém to work for and use reasonable efforts for the general interests of the corporation and its stockholders and creditors. The directors are the primary agents of the corPora^oni and this relation requires of them the highest and most scrupulous good faith in their transactions tor the corporation; and the general _ 1 r5 rule> that n0 trustee can derive any benefit from dealing with these funds of which he is a trustee, applies, with still greater force to the state of things in which the interest of the trustee deprives the corporation of the benefit of his advice and assistance. Courts of equity always regard with great jealousy the contracts made, between directors and the corporation, and, as a general rule, such contracts are voidable at the instance o’f the corporation or stockholders. This doctrine applies, whether the directors are a party to the. contract in its inception, or whether they subsequently acquire an 'interest in it. As directors cannot acquire an interest, directly or indirectly, adverse to the corporation, if they, taking advantage of their knowledge and position, make even an advantageous bargain in the purchase of claims against the corporation, the profits thus made will be treated as held in trust for the company. (Field on Cor., §174, 175, 396, 397; Hale v. The Bridge Co., 8 Kas. 466.) In conclusion upon this point, applying to the allegations of the petition the law as above stated, holding the contract void, we may very appropriately adopt the language of Mr. Justice Miller, in the case of Warded v. Union Pacific Railroad Company, et al., C. L. J., vol. 5, 527 “The corporation was represented by an agent who controlled both sides of the contract, and whose interest was in every way against his principal and in his own favor. While? the glaring evil of this thing may be obscured by using the name of the corporation as one party and that of individuals-having no connection with the corporation as the other party, the danger that selfish greed will make for the agents of the-corporation a contract of which they will reap the advantage, and in which the corporation will suffer all the losses, is only -increased by the fact that the names of the parties really interested do not appear in the transaction.” 2.contract,when TOid;Ucoinporationmay call accountfor0 uabi?it°yofust:' participants in . frauds. In this connection we may properly remark, that if persons other than directors and officers of the corporation participated with them in their fraudulent and illegal transactions, with full knowledge of all the facts, as is alleged, they are equally liable with the faithless agents and officers. “In the discovery of frauds and in furnishing remedies to parties defrauded, equity holds all # *• parties to their just responsibility, following trust property into the hands of remote grantees- , . . . . . , . and purchasers, who have taken it with notice of a trust, in order to subject it to the trust.” (Peabody v. Flint, 6 Allen, 52.) We come next to the inquiry, whether the plaintiffs are in-position to maintain this suit? Counsel contend that the Leavenworth, Atchison & Northwestern railroad company was not competent or authorized to purchase and become the holder of the stock of the county and city of Leavenworth, and that the county and city are still the owners of the stock . originally issued by the Missouri River railroad company for the bonds of said county and city. The amended petition shows that the Leavenworth, Atchison & Northwestern railroad company was incorporated in 1868 to build a railroad from Leavenworth to Atchison, and thence northwest. The capital stock was first fixed at $500,000, and afterward increased to $600,000. On December 26th, 1868, Leaven- ‘ worth county, pursuant to a vote authorizing the transfer, sold and transferred its $250,000 of stock' in the Missouri River railroad company to the Leavenworth, Atchison- & Northwestern railroad company, and on the same day, and by like authority, the -city of Leavenworth made a similar disposition of its $250,000 in the Missouri River railroad company. There had been an act passed by the legislature of the state, in the previous March, authorizing the sale or disposition of this stock. The statute under which the Leavenworth, Atchison A Northwestern railroad company organized, authorized the corporation to hold and purchase . . . such real and personal estate as the purposes of the company required. (Ch. 23, Gen. Stat.) And section 47, subdivision 2 of the same chapter, further empowered the corporation to take and hold such voluntary grants of real estate and other personal property as should be made to it to aid the construction, maintenance and accommodation of its railway. 8*raifroadfcor-purohaseana irtyr5g$to" ?nconneotingk In view of these powers so conferred by law, the act of purchasing said stock by the Leavenworth, Atchison & Northwestern railroad company of the county and .city of Leavenworth, was not ultra vires. While it is not shown by the petition that the purchase of this stock was necessary for the purposes of the corporation, in the absence of any statement to the contrary, we are to presume the company was acting within the -.terms of its authority and power. The statute permitted the corporation, under some circumstances, to purchase and obtain various kinds of property, and in the absence of any motion to make the petition more definite and certain, we must assume the purchase was legitimate and proper; but we do not by any means intimate that the corporation had the right to buy the stock as an investment, or for purposes not connected directly with the use of the road. The attempt to construe the language of subdivision 2 of said. sec. 47, as authorizing the corporation to take and hold any such real and other property as the company might obtain without consideration, is an effort to give a forced and strained construction to the words of the statute, contrary to the well-defined meaning of “ voluntary grants.” Nor is the argument tenable, that the Leavenworth, Atchison A Northwestern railroad company could not lawfully become a stockholder in the Missouri River railroad company, as such an" act would be contrary to public policy. The Missouri River railroad runs from Wyandotte to Leavenworth, and the Leavenworth, Atchison & Northwestern railroad from Leavenworth to Atchison — the two roads connecting at Leavenworth. Neither the interests of the public nor the interests of the companies would be sacrificed or prejudiced necessarily, if the roads were operated under one management, or if the two companies were consolidated upon equitable terms, so as to have a continuous line of railroad from Atchison to Wyandotte.' That the law-makers of the state apprehended no such danger to the public as claimed by counsel from such an act, is apparent from the legislation of 1870 and 1873, permitting the consolidation of railroad companies, and empowering such companies to purchase and hold stock in connecting corporations. (Laws 1870, ch. 92, § 1; Laws 1873, ch. 105, § 1.) 5. Railroad corpo* stoSn°Mr?ñfctS^rSoíhcon-ne’ officersf^raudác°t?onfo?ac-: counting. Another objection is made to the right of the plaintiffs to . maintain this suit, on the ground that although they are stockholders in the Leavenworth, .Atchison & Northwestern railroad, company, that company is not a stockholder in the Missouri River railroad company, because after the Leavenworth, Atchison & Northwestern railroad company had purchased the stock of' Leavenworth county and city in the Missouri River railroad company, the certificates thereof were canceled, and new certificates issued in their place to Lucien Scott for $250,000, and H. L. Newman for the other $250,000, as trustees; and it is urged that the action should be against Scott and Newman for a division of the. stock, or a transfer of the same back to the Leavenworth,. Atchison & Northwestern railroad company. Now, as the allegations charge that- the stock was fraudulently surrendered to the president and directors of the Missouri River railroad company by Caldwell and his associates, and new certificates issued to said Scott and Newman, as trustees, without consideration, the said Leavenworth, Atchison & Northwestern railroad company are still the equitable owners of this stock, and the legal title is held by said Scott and Newman, simply as trustees for the company. The fraudulent transfer of this stock to Scott and Newman gives us another exhibition of the trail of the serpent, winding its sinuous course over and around the unlawful proceedings of the manipulators of these corporations, but cannot deprive the Leavenworth, Atchison & Northwestern railroad company of its rights, nor despoil innocent stockholders of their property. Both of these trustees refuse to protect the interests of the Leavenworth, Atchison & Northwestern railroad company, and of its stockholders, and as said trustees are before the court in this , case> W1^ other parties, we see no good rea-, son, or any rule of equity, which requires two suits, instead of one, to obtain the same results. Equity does not suffer technicalities to stand in .¡ts way, but seizes upon the substance of the case. Virtually, the Leavenworth, Atchison & Northwestern railroad company are the owners of the stock in the name of Scott and Newman. The plaintiffs are stockholders of that company, and are interested in protecting and augmenting the value of such stock, and Scott and Newman being only trustees for the company, no separate suit is required against them for a division or transfer of the shares. All the questions involved can be completely determined and settled in this action. Notwithstanding the decision in Heath v. Railway Company, 8 Blatch. 347, we more readily adopt this conclusion, in view of the liberal provisions of our code relating to parties and practice. 'bofders to00 ' sK\ran°fers this nght. Again, it is urged that there is nothing in the petition showing a transfer from the county or city of any cause of action against any of the defendants to the Leavenworth, Atchison & Northwestern railroad company, or the plaintiffs, and that therefore the plaintiffs cannot maintain the suit. This objection is also untenable. The Leavenworth, Atchison & Northwestern railroad company purchased the stock of the county and city, and thereby received the stock with all its incidents, and among these is the right to receive all dividénds after the date of such purchase and transfer — that is, its proportional share of all profits not then divided; and it is immaterial at what times or from what sources these profits have been earned. It is wholly immaterial whether they have accrued from rents, ^he profits of the construction of the road, or from the-sales of lands equitably belonging to the company: they are all incidents to the shares to which the Leavenworth, Atchison & Northwestern railroad company, as a purchaser, became at once entitled, provided it remains a member of the corporation until a dividend is made. The charge is, that no dividend has been declared by said Missouri River railroad company, nor any profit divided, although large sums have been realized, because all of said sums have been seized and converted by the directors unlawfully. The purpose of this suit is to restore to the latter company its funds, moneys and property in the possession of wrong-doers, so that after the creditors of the company (if there are any) are paid, dividends may be divided and distributed to the stockholders. If the $700,000 of stock issued to the conspirators is fraudulent, the Leavenworth, Atchison & Northwestern railroad company owns about all of the valid stock in the Missouri River railroad company. As it is the right of the former ' company to share in the profits of the latter company in the proportion which the stock it owns bears to the whole capital -stock used in the enterprise for which the latter corporation was organized, so said former company, by its purchase of the stock of the county and city of Leavenworth, and as incident to the ownership thereof, had the right (upon the refusal of the Missouri River railroad company) to institute and maintain an action, as a stockholder, for the benefit of the latter corporation. If both corporations are under the . control of tbe defendants, and refuse to bring the suit, on request, then the plaintiffs, as stockholders in the Leavenworth, Atchison & Northwestern railroad company, have this right; and as both of these corporations are necessary parties to the suit, and an excuse is given for the bringing of the suit by tho-plaintiffs, which is equivalent to a refusal by the directors of' the Missouri River railroad company, on request, to bring the suit, and as the Leavenworth, Atchison & Northwestern railroad company has refused, on request, to bring suit, the plaintiffs,- as stockholders in the latter company, have this right. The rights of the county and city were transferred with their stock, and as an incident thereof. If any other rule were adopted, the plaintiffs would be denied all relief, and the wrongs of which they complain would go unredressed. Even if the directors and officers of these corporations were willing to prosecute, it would be«a mockery to permit a suit against themselves to be brought and prosecuted under their management to obtain the relief sought in this action. (Heath v. Railway Company, supra; Peabody v. Flint, supra; March v. Eastern R. R. Co., 40 N. H. 548; Dodge v. Woolsey, 18 How. 341; Robinson v. Smith, 3 Paige, 222.) 8. Statute of aSooveryoi fraud; notice. a.computation of nme. On the part of the resident defendants, it is insisted that the action is barred by the two-year clauses in section 18 of the code, and was so barred before the transfer by the county and city of their stock. Assuming that the action comes within the provision of the third subdivision of said section 18, still the statute excepts the plaintiffs from the limitation until a discovery of the fraud. It is alleged that this discovery was not made on the part of the county and city of Leavenworth, or on the part of the plaintiffs, until 1872. The circumstances under which the fraud was discovered do not constitute any part of the cause of action and need not be stated,' even where a discovery must be alleged to avoid the apparent bar of the statute of limitations. (K. P. Rly. Co. v. McCormick, 20 Kas. 107.) It was not necessary to allege that the Missouri River railroad company and the Leavenworth, Atchison & Northwestern railroad company, or either of them, did not discover the frauds of the defendants until within two years next before the suit was commenced, as the allegations of the petition show satisfactorily that these" companies were and continue to be under the actual potential control of the wrong-doers, who are necessary defendants; and knowledge on the part of the guilty officers and agents of the corporations of the ° * fraudulent acts and conduct of themselves and gUjp;y associates, isnot notice to the corporation or its stockholders, so as to give the advantage of this notice to such agents and associates. (City of Oakland v. Carpentier, et al., 13 Cal. 540.) Upon this point, the counsel of plaintiffs well say: “The defendants are estopped from setting up their own laches in failing to sue themselves. Nor, can they be heard to claim that the corporation had notice, on the ground that when they committed the wrongs it had full notice of what they were doing. They were the eyes, the ears and the hands of the corporation, through which alone it could see, hear of act.” As the action was commenced on March 11th, 1873, and the discovery had in 1872, the action was brought in time. Counsel for said resident defendants here again intervene, and claim that this suit was only commenced on June 14th,-1875, as the plaintiffs on that day •withdrew their original petition and filed the amended petition. The original petition was withdrawn and the amended petition filed by leave of the court and with consent of the defendants, and the demurrers filed to the original petition were re-filed to such amended petition. The action is prosecuted by the same parties against the same defendants named in the original petition, and the record states the original petition was filed in this action, not some other. We construe the amended petition to relate back to the time of the filing of the original petition, and that it speaks as of that date. , . 4. Eaoh stockrationacratui0" ^“‘properly*0 and effects; acofficersto?1, frauds. 7 stocSioiacrs, subordinate to creditors' The allegations of the amended petition were admitted by the demurrers interposed, and clearly presented to the court below a case calling for the exercise of its remedial powers in behalf of the plaintiffs and of the Leavenworth, Atchison & Northwestern railroad company. If the conspirators are compelled to return to the Missouri River railroad company the moneys and property which belong to it, its treasury may be filled to overflowing; its stock may appreciate to great value; and the Leavenworth, Atchison & Northwestern railroad company, as the owner of a large amount of its stock, may be greatly benefited. The plaintiffs, as stockholders in the latter corporation, will be the ^ *• 7 direct recipients of these benefits, and hence have a personal interest in an accounting be-A . mi t tween the Missouri River railroad company and its 0fgcers> Ample facts are stated in the petition to authorize the plaintiffs to maintain their action. In view of the prayer to the petition, we add that the claims of the plaintiffs, as stockholders in the Leavenworth, Atchison & Northwestern railroad it , company, are subordinate to the claims oi the creditors (if there are any) of that company; and likewise the claims of said corporation, as a stockholder in the Missouri River railroad company, are also inferior to the claims of the creditors (if there are any) of the latter company.- Hence, if upon an accounting with the copartners, any moneys or other property be obtained for the Missouri River railroad company, the Leavenworth, Atchison & Northwestern railroad company will not be entitled as a stockholder to a division until all the debts (if there are any) of the Missouri River railroad company are paid, and if any dividends or profits are decreed to the Leavenworth, Atchison & Northwestern railroad company from the assets of the Missouri River railroad company, the plaintiffs, as stockholders in the Leavenworth, Atchison & Northwestern railroad company, will not be entitled to share therein until the debts (if there are any) of the latter company are paid. Of course, we know nothing of the facts in this case except as they are stated in the amended petition; but for the purposes of the case we are compelled to take such statements as true, and have commented accordingly. The order and judgment of the district court sustaining the several demurrers will be reversed, and the cause remanded with direction to the court below to overrule the said demurrers, and each of them. All the Justices concurring.