Opinion
No. 125535
Decided July 26, 1968.
Contracts — Corporation — Pensions — Principal shareholder — Rescission — Ultra vires actions — Board of directors — Self-dealing — Quorum — Consideration — Continued services of employee — Covenant not to compete — Disclosure of relevant facts — Reasonableness of pension — Discretion of directors — Undue influence — Burden of proof — Clear and convincing evidence.
1. Relief from the obligations of a contract by way of its rescission requires proof by clear and convincing evidence.
2. The power of a corporation to pay pensions may be implied from the fact that such action is now considered incidental to the conduct of any commercial undertaking.
3. The defense of ultra vires is not available to a corporation which has received the benefit of a contract but not completed its performance thereunder.
4. Pursuant to Section 1701.60. Revised Code, the directors of a corporation may establish reasonable compensation, including pensions, for services of directors and officers, irrespective of personal interest.
5. Competent parties may modify an executory contract which they have made, the consideration therefor being found in the mutual waivers of rights thereunder.
6. Since private pensions are deferred compensation, an employee may contract with his employer as to who shall receive the same.
7. In considering the validity of shareholders' action in approval of a pension contract with the president and majority shareholder of the corporation, notice that gives enough information to allow an intelligent judgment is sufficient.
8. Courts will not interfere with corporate compensation agreements unless circumstances amounting to fraud are shown to have existed or there is a showing of a clear abuse of power.
9. Unless the evidence has shown that the amount of a corporate compensation agreement, when tested by the standard of a legitimate business purpose, is clearly gross and unjust a court may not interfere with the directors' discretion thereon.
Messrs. Bieser, Greer Landis, for plaintiffs.
Messrs. Goldman, Cole Putnick and Mr. Gerald Wilks, for defendant.
The plaintiffs, the adult daughters of Robert Elder, at the several times the events material to this litigation occurred, seek to recover from the defendant the remainder interest in a pension contract that was entered into on April 12, 1946, between Robert Elder and The Elder Johnston Co., now the Elder-Beerman Stores Corp., and as amended on November 21, 1955.
The defendant, on its cross-petition, seeks rescission of the contract and recovery from the plaintiffs the total sum of the payments heretofore made to them thereunder.
The issues presented by the pleadings have been tried to the court. Able briefs have been furnished by counsel.
The facts as delineated from the record are:
1. During the early years of this century the defendant corporation came into being having been created by one, Thomas Elder. During the third decade his son, Robert Elder, became the moving force in the corporation, and in 1936, after the father's death, Robert Elder became president and chairman of the board.
2. In 1935 Thomas Elder transferred eighty six (86%) percent of the common stock of the corporation to his four children. Thirty-two (32%) percent thereof to Robert Elder with the right to purchase, at par within ten (10) years, the remainder thereof transferred to his sisters.
3. Robert Elder relinquished this right to purchase for a series of interlocking trusts giving him the right to vote the family shares.
4. In 1946 defendant board of directors (Robert Elder abstaining) unanimously adopted a resolution authorizing a pension contract whereby, in consideration of promises of Elder, for so long as he lived, to devote his best interests on behalf of defendant and to refrain from engaging in any manner with any competing business, the defendant agreed to pay Elder's widow for the rest of her life, a monthly pension equal to one-half of one percent (.5%) of the average monthly salary of Elder for three (3) years preceding his death, multiplied by the number of years of his service with defendant, and if the widow should live less than ten years after his death to continue said payments to whoever under his will would be entitled to the residue of his estate, or, if no will to his next of kin, for no longer than ten years after Elder's death. Subsequent thereto, after notice thereof by mail to the shareholders, at a meeting duly called, they unanimously ratified and approved the written pension contract as by resolution adopted by the board.
5. Sometime prior to November 21, 1955, Elder's health begain to fail whereupon after following the same procedure in arriving at the original contract, it was modified to provide that the pension would be calculated on the three (3) years preceding his voluntary retirement from active service and the original was reaffirmed in all other respects.
6. Elder died August 31, 1956, and defendant made payments in accordance with the agreement as modified to his widow until her death on February 27, 1957. Thereafter defendant continued the payments to the plaintiffs, the sole surviving children of Elder and the residuary legatees under his will.
7. In 1961 Arthur Beerman acquired over fifty percent (50%) of the shares of defendant with knowledge of the pension contract.
8. On January 31, 1963, defendant, in writing, notified plaintiffs that all future payments under the agreement, as modified, would be discontinued.
9. No further payments were made, hence this lawsuit. Defendant contends that the agreement of 1946 is void because:
1. There was a failure of a quorum of disinterested board members voting on the resolution.
2. The contract was for an illegal purpose whereby Elder was granted the power to designate the pension:
a — to anyone, or
b — to non-dependent adult children.
3. The contract was founded upon mistakes of fact, and the misrepresentations were a fraud upon the directors and shareholders.
4. The contract was ultra vires and void ab initio.
5. There was a failure to disclose all the material and relevant facts for consideration of the directors and that of shareholders.
6. The pension so provided by the contract is unreasonable and constitutes a misuse or waste of corporate funds and is a gift for corporate property.
7. Elder in his fiduciary capacity so dominated the board of directors and the shareholders that his conduct was tantamount to self-dealing, thereby rendering the contract null and void.
Defendant further contends that modification of 1955 and the reaffirmance of the agreement is void because:
1 — It is wanting in consideration.
2 — The whole thereof is unreasonable and therefore void.
3 — The failure to fully disclose all the facts makes the contract a nullity and the ratification by the shareholders invalid.
The plaintiffs maintain that defendant, by its conduct, is estopped from denying the validity of the pension agreement; that the doctrine of laches bars the claim of defendant; that the facts disclosed demonstrates that the pension was reasonable and was validated upon proper disclosure to shareholders; and that defendant's cause on its cross-petition is barred by the statute of limitations.
Essentially the cause of action of the plaintiffs is predicated upon breach of contract. Defendant's cause is founded upon rescission and restitution.
The defendant admits, and the facts disclose unequivocally, that it has breached the pension agreement by its failure to continue the payments from January 31, 1963. Therefore, to enable the defendant to avoid the consequences of such breach, it must clearly and convincingly appear from the evidence that defendant has established a ground for relief by way of rescission, unless the agreement may be declared legally void and invalid. Christmas v. Spink, 15 Ohio 600; Bank v. Wheelock, 52 Ohio St. 534; Willis v. Baker, 75 Ohio St. 291; Cross v. Ledford, 161 Ohio St. 469; Kohler v. May, 76 Ohio Law Abs. 1; Dover Bay Homes, Inc. v. Quinn, 22 O. O. 2d 269.
The court finds that the agreement was not ultra vires. Corporate acts which are not illegal but which are outside the scope of the general express or implied authority of the corporation are said to be "ultra vires." Words and Phrases, Vol. 43, page 13. It is the term used to express the action of a corporation which is beyond the powers conferred upon it by charter or the statutes under which it was instituted. State, ex rel. v. Houston Trust Co., 79 S.W.2d 1012; Cleveland M. R. Co. v. Himrod Furnace Co., 37 Ohio St. 321.
The modern trend, however, has been to bar this defense in most situations as there has been a considerable modification of the rigorous doctrine of ultra vires. Hayes v. State, ex rel. Aldroyd Mach. Co., 124 Ohio St. 485; Unione Fratellanza Oratinese v. Picciano, 129 Ohio St. 466; Section 1701.13 (H), Revised Code, formerly 1701.11 (D), Revised Code.
Acts of a corporation which, if standing alone, would be beyond the express or implied authority of the corporation, are not necessarily ultra vires when they are incidental to, or form a part of, an entire transaction that in its general scope is within the corporate purposes. Central Ohio Natural Gas Fuel Co. v. Capital City Dairy Co., 60 Ohio St. 96. Thus, even though a corporation may not be expressly authorized to adopt and pay pensions, such authority is said to reside in the implied powers of the corporation. Holmes v. Republic Steel Corp., 84 Ohio App. 442; 10 O. S. L. J. 403.
Recognition of an ultra vires act as possible involves a strange confusion of ideas. To deny that corporations are able to enter into contracts, and do frequently enter into contracts, and do acts in excess of their chartered powers, is to deny an unalterable and self evident fact. Morawetz Corporations, 2d Ed., Section 649.
To the extent that the doctrine of ultra vires is still applicable in Ohio, such defense or claim is effective where the contract is wholly executory. London L. Indem. Co. v. Fairbanks Steam Shovel Co., 112 Ohio St. 136; Hayes v. State, ex rel. etc., supra. If an ultra vires transaction has been partially executed and the corporation has received the benefit thereof, it is generally held that the defense of ultra vires is not available to the corporation. Siders v. Gem City Concrete Co., 13 O. C. C. N. S. 481, aff'd. 87 Ohio St. 519; Lewis v. Fifth-Third Natl. Bank, 274 F. 587; Re B-F Bldg. Corp., 284 F.2d 679, 15 O. O. 2d 396.
Some of the cases intimate that the contract can be rescinded if the corporation tenders back the consideration received and such will restore the status quo. Under the facts in this case a tender back would be impossible. Therefore it would appear that even if we had an ultra vires contract the court may not permit a rescission, in the absence of fraud or bad faith, where the necessities of the corporation require its retention of the consideration received.
The court further finds that the agreement is not void on the predicate of failure of a quorum of disinterested board members voting on the resolution in 1946, and the amendment and reaffirmation of 1955. Elder abstained in each instance. Self-dealing on the part of a director is accomplished when it is shown that his presence is necessary to constitute a quorum or that his vote is necessary in order to adopt a resolution. Boyle v. Glidden Co., 23 O. O. 3.
The fact that Dorothy Lee Elder Murrell was the daughter of Robert Elder and thereby may have had a personal interest, together with the fact that she was a director and did vote as such for the resolution amending and reaffirming the agreement in 1955, does not in and of itself invalidate the agreement. The effective date of Section 1701.60, Revised Code, preceded the date of the adoption of the resolution to amend. This enactment, among other things, swept from under the rug all the debris underlying the authority of the interested director to establish a reasonable pension. Accordingly, the only particular in which a pension so granted is legally susceptible of attack is upon the ground that it is unreasonable. Teich v. National Castings Co., 19 O. O. 2d 367.
The court further finds that there is no want of consideration. It is often difficult to construe consideration in contracts or agreements of pension because the consideration lies in the past. In this case, however, Elder promised never to associate with a competitor in any manner and by implication a totality of dedication of all his business capability, talents and energy to the corporation. The element of consideration in such matters has been clearly defined in Gruber v. C. L. Ry. Co., 158 F. Supp. 593:
"Consideration is a benefit to party promising, or a loss or detriment to party whom promise is made, and benefit means that promisor, in return for his promise, has acquired a legal right to which he had not been previously entitled, and detriment means that promisee in return for his promise forbears from exercising some legal right he is previously entitled to exercise."
It is apparent that defendant's claim of lack of consideration is primarly directed to the amendment of 1955. A pension is a periodic allowance to an individual or to his family, given because of some meritorious work or when certain conditions, as age, length of service and the like, have been fulfilled. It is sometimes referred to as deferred compensation for services rendered. State v. City of Seattle, 377 P.2d 454. Pensions are given in consideration of services not fully recompensed when rendered. Herreboudt v. Board of Education, 245 N. Y. Supp. 2d 612.
Payment of bonuses and pensions to corporate employees is under most circumstances an unquestioned practice. Even as corporations have an interest in the health of their employees ( State, ex rel. Sheets, v. Pittsburg, C. C. St. L. R. Co., 68 Ohio St. 9), so they undoubtedly have an interest in the welfare of their employees after they are no longer able to render their accustomed services because of advancing years. The pension is generally considered as a continuing inducement to the employee to continue his loyal services to the company, with such continued service constituting the consideration, for the pension, moving from the employee. Wallace v. Northern Ohio Traction Light Co., 57 Ohio App. 203. A pension is ordinarily deemed to impose an obligation upon the employer for the payment of the pension. Wilson v. Wurlitzer Co., 2 O. O. 48; Sigman v. Wurlitzer, 10 O. O. 17.
Furthermore, parties competent to contract are competent to modify the contract, so far as executory, between them made, the consideration therefor being found in the mutual waivers of rights thereunder. Phelps v. Gas Fuel Co., 101 Ohio St. 144; 11 Ohio Jurisprduence 2d, Section 81, p. 320.
The court further finds that the agreement is not invalid merely because Elder, by his will, could have designated anyone as a recipient of the pension. The fact of the matter is he did not do so. Had he done so would raise the issue. He did designate his adult daughters only if his widow failed to survive him by ten years.
It would appear that, for the past generation at least, raises in salary and incentive compensation have been taken in various forms such as cash bonuses, stock options, stock bonuses, pensions, retirement plans, payments which run to the executive family after death, and other fringe benefits. And Pennsylvania has seen fit to expand and validate such concepts by statute. See Cyclopedia of the Law of Private Corporations by William Fletcher, Vol. 5, Sections 2137 and 2143 at pages 587 and 612.
Furthermore, this court holds to the view that private pensions are deferred compensation and so long as the same are reasonable the employee may lawfully contract with his employer as to who shall receive the same.
The court further finds that there was no substantial misrepresentation of the facts nor failure to disclose all the material and relevant facts having to do in any way with the pension agreement. If the facts disclose such actions and conduct it would amount to fraud and render the agreement void. 24 Ohio Jurisprudence 2d 679. Section 77. There may be some dispute as between the policy recited in the preamble to the agreement and the fact that only three employees had been pensioned prior thereto. This, however, is not material. The material and relevant matters are the facts that Elder was being given deferred compensation for his exclusive loyal devotion to all the affairs of the corporation, that his wife and heirs were the recipients thereof, and that the method of calculating the deferred compensation was clearly set forth. All directors and shareholders were duly apprised of the facts and were unencumbered in testing the same by applying the stated formula to the salary and years of service. In fact, notice that gives enough information to allow the stockholders an intelligent judgment is sufficient. Gruber v. Chesapeake Ohio Ry. Co., supra.
The court further finds that the alleged self-dealing on the part of Elder is insufficient to vitiate the agreement. The fact that Elder was chairman of the board and controlled eighty-six percent of the voting stock does not in and of itself render the agreement void. It must be made to appear that there was fraud in fact or a clear implication thereof. Also it must be clearly shown that Elder controlled the board. In this close family corporation it may not be presumed that self-dealing in fact existed as to the pension on the part of the dominant officer from the fact that there had been no nay vote upon any resolution or action presented for approval. There has been no showing that any director, and for that matter, that any stockholder, acted in bad faith. Courts will not interfere with corporate compensation agreements unless circumstances amounting to fraud are shown to have existed or there is a showing of a clear abuse of power. Berkwitz v. Humphrey, 163 F. Supp. 79; Holmes v. Republic Steel Corp., 69 N.E.2d 396.
The court also finds that the agreement meets the test of reasonableness. The amount of compensation to be paid to an officer is within the business discretion of the company's board of directors, having regard to the volume and nature of the business, and the courts are loathe to interfere, even though the amount may appear to be in excess of the value of services rendered. The court in Meyer v. Black, 6 O. O. 184, stated that this has always been the well settled doctrine of the courts of equity.
As hereinbefore stated, the enactment of Section 1701.60, Revised Code, has resolved all doubts in the area under consideration, except that the pension must be reasonable. Surely, on account thereof, together with the fact that the agreement in question was modified and reaffirmed after the enactment aforesaid, the sole issue in such a situation is that of reasonableness. Regardless, the court has painstakingly considered all the issues advanced by defendant.
It would appear that the reasonableness of a pension should be judged or tested upon the proposition that it substantially conforms to the standard of a legitimate business purpose. Payment of pensions to or on behalf of corporate employees is under most circumstances an unquestioned practice. To impose the antiquated restrictions of the past could seriously impede corporate efforts to maintain employee relations, procure new employees, and retain key executives. Payments on the decease or retirement of employees not only improves the morale and incentive of remaining employees to stay with the corporation, but also gives the corporation a good public image.
Good will represents a substantial portion of the value of a going concern, and corporate directors should be given as much freedom as possible in their efforts to protect that asset. The fiduciary capacity in which directors hold corporate assets impose a negative duty on them to refrain from wasting corporate assets. An affirmative duty, however, is also imposed, requiring fiduciaries to conserve and enhance the value of the assets they hold. The line where good will protection ends and the giving away of assets begins lies somewhere in the broad area of past services compensation. Recognizing the division the location of the line must necessarily follow on a case by case basis.
Furthermore a corporate official gives so much of his time, talent and energy, indeed, his life, in order to make the firm a success that upon that basis alone most pension agreements are reasonable. In fact corporations, realizing the benefits derived from such agreements incorporate very attractive pensions in their by-laws so as to insure the ability to employ men who will put forth that extra effort needed to make the corporation a profitable venture.
In this case the board of directors has determined the reasonable value of the services of Robert Elder and elected to defer part thereof in the form of a pension to his widow and children. Unless the evidence has shown that the amount thereof is clearly gross and unjust this court may not interfere with the board's discretion. The awarding of compensation in whatever form is within the province of the board as it should be. It is only the board that can possibly determine the devotion of an executive and the many intangibles that cannot be observed by outsiders.
A competent Federal Court, construing the law of this state, in the area under consideration, recently proclaimed the capability and authority of the board to determine the reasonableness of a pension in this, to wit:
"The leadership which emanates from such a man can be better felt and sensed than seen or proved. That leadership, which might be beyond accurate power of description, though it isn't tangible, is, nevertheless, entitled to reward and recognition while its effects are lasting, and that question is one for the exclusive decision of the board of directors under the law of Ohio." Trich v. National Casting Co., 19 O. O. 2d 367.
The defendant has failed to produce evidence that is so clear and convicing as to satisfy the mind of the court that fraud and misrepresentation was in fact established. Therefore rescission of the contract may not be proclaimed. The record is void of any false representations of material facts upon which the board and the shareholders were justified in relying and did rely, inducing the corporate action in entering into the contract. Likewise there was no non-disclosure or concealment of any material facts constituting such fraud as would require the cancellation of the instrument.
The plaintiffs have asserted the validity of a contract executed between parties occupying a fiduciary relationship to each other and they have sustained their burden by showing authoritatively that no artifice was practiced, no undue influence was used, and that the board of directors, although in all common probability the weaker party, acted voluntarily and with full understanding of their act and its consequences.
Fraud must be proved and will not be presumed. Likewise undue influence is not presumed. Neither has it been shown by the defendant by clear and convincing evidence. In fact, plaintiffs have affirmatively shown that the transaction was in all respects fair and just. This court therefore will not undertake to regulate or control the internal affairs or policy matters of a corporation or substitute its judgment for that of the board of directors in fixing the pensions or any other benefits, in the absence of fraud, usurpation, breach of trust, gross negligence or where pensions are clearly excessive amounting to a waste of corporate assets.
Inasmuch as the court has found that the transaction is not void the court would note in passing that even if it may be said that it is a voidable transaction, the doctrine of estoppel by conduct or by laches would have a profound application and a debilitating effect upon defendant's case. U.S. Rolling Stock Co. v. Atlantic G. W. R. Co., 34 Ohio St. 450.
The court concludes from the modern trend of the authorities on the several propositions of law advanced by the parties that actions of directors which have been ratified by shareholders places a heavy burden upon complaining corporation of proving vitiating elements of the transaction.
Accordingly the pension herein complained of is to impose an obligation upon the defendant for the payment of the pension which cannot be evaded upon mere whim or caprice, or for other than substantial reasons.
Under all the facts and circumstances the court can, and does, sympathize with the position of the new shareholders; however, even though the payment thereof may have become a burden, the court cannot decree its abatement for the reasons hereinabove delineated.
The plaintiffs, therefore, should recover from the defendant the sum of $63,188.40 with interest at 6% from the 1st day of September, 1966, and defendant's cross-petition should be dismissed with prejudice to a new action.
Counsel for plaintiffs shall draft the appropriate journal entry in conformity with this decision and with approval of counsel for defendant, submit the same to the court for approval and journalization.