Opinion
February 25, 1942.
Proceeding in the matter of the application of Walter Jacoby and another under section 1450 of the Civil Practice Act for an order requiring Frederick Dezsoefi to submit certain differences between the parties to arbitration, and under section 1451 of the Civil Practice Act to stay the respondent from proceeding in an action theretofore instituted by the respondent against the petitioners in the Supreme Court of the State of New York, New York County.
Application denied.
Pleasants Donovan, of New York City (Samuel A. Pleasants and Stanley D. Schuval, both of New York City, of counsel), for petitioners.
Gabriel Galef Victor Jacobs, of New York City (Milton Harawitz, of New York City, of counsel), for respondent.
The petitioners in this proceeding are Walter Jacoby and Thousand Hats, Inc.; they seek an order pursuant to section 1450, Civil Practice Act, to compel the respondent to proceed to arbitration of his pending causes of action against the petitioners, and for an order under section 1451, staying the respondent from proceeding with that action.
On June 12, 1941, petitioner Jacoby and the respondent entered into a pre-organization agreement for the formation of a corporation to be known as Thousand Hats, Inc.; the total authorized capital was to consist of 300 shares of common stock, with a par value of $10 per share. Under the terms of the contract Jacoby agreed to subscribe for 151 shares and to pay therefor the sum of $1,510, and respondent agreed to subscribe for 149 shares and pay therefor the sum of $1,490. Jacoby agreed to loan the respondent the sum of $1,490 to be used solely for the payment of the subscription price of the shares of stock to be purchased by the respondent. The contract contains many other terms relating to compensation of the parties, election of officers and directors, voting of stock, etc. On June 24, 1941, certain provisions of the agreement of June 12, 1941, were modified relative to compensation and dividends. The basic contract in paragraph 13th thereof contained an arbitration clause, to the effect that any dispute or controversy was made subject to arbitration and that "no suit at law or in equity based on such dispute or controversy shall be instituted by either party hereto other than to enforce the award of the arbitrator or arbitrators".
On or about November 26, 1941, the respondent commenced an action in this court, against the petitioners, comprising four causes of action, the first and second causes of action being against the petitioner Jacoby, to rescind the said contracts for misrepresentation and fraud, and breach of the said contracts, and the third and fourth causes of action being against both petitioners to recover money damages alleged to have been suffered by respondent by reason of the alleged fraud practiced upon him.
In opposition to this application the respondent avers that the agreements involved are not proper translations of an agreement previously entered into between petitioner Jacoby and the respondent, made in the German language providing in effect for a partnership between them; that such contract provided that it should be translated into the English language; that Jacoby stated that his attorney would translate the agreement into proper English in view of the fact that he understood both English and German; that upon inquiring why a corporation was to be formed he was told that under the laws of this country their contemplated business enterprise had to be conducted as a corporation rather than a partnership; that he at first refused to sign the agreement but was ultimately coerced into doing so.
In the action which the respondent instituted in this court for a rescission of the aforesaid agreements which form the foundation of this proceeding, the respondent as the plaintiff in that suit set forth twelve breaches of said contract, in the first cause of action, and in the second cause of action alleged four breaches of the contract by the petitioner Jacoby; in brief, some are, refusal of said petitioner to permit respondent to subscribe to said 149 shares of the capital stock of Thousand Hats, Inc., or to any part thereof; refusal of petitioner to loan respondent said sum of $1,490, or any part thereof, to be used for the purchase of said stock; refusal and failure to notify respondent of stockholders' or directors' meetings; refusal of petitioner to permit respondent to nominate one of the directors; refusal of petitioner to vote his stock to elect respondent's designee as a director; refusal and failure or petitioner to vote his stock to elect respondent as vice-president or treasurer of the corporation; refusal to permit respondent to remain in the premises of the corporation, or to keep or maintain books of account; refusal to permit the corporation to pay respondent any salary or permit the corporation to employ respondent and that at the time the representations were made by said petitioner to carry out these representations he never intended to do so, knew they were false, intended to induce the respondent to enter into the agreements and respondent believing said representations to be true and relying thereon was induced to and did enter into the agreements aforesaid. Rescission is sought, in consequence. No answer appears to have been served denying these allegations of the complaint.
The respondent maintains that this proceeding cannot prevail and urges that it must await the outcome of the equity suit for rescission, since if he is successful in that suit, the agreements and the arbitration clause will fall, and, also, that the corporate petitioner herein is without status here, not being a party to the said agreements. Other claims are advanced in opposition, but they are not deemed essential for discussion, since this court is of the opinion, for reasons currently announced, that this application must be denied.
In support of the application to compel arbitration the petitioners maintain that on an application to enforce arbitration the court has no jurisdiction to determine whether the other party may rescind the agreement for fraud, relying particularly upon Matter of Kahn's Application (National City Bank), 284 N.Y. 515, 32 N.E.2d 534. As to the right of the corporate petitioner to apply herein, petitioners' brief is silent.
As respects arbitration, it is the general rule that third persons, not parties to an arbitration agreement or to a principal contract containing an arbitration clause, or claiming under or through such parties, are not bound by the arbitration agreement. 3 Am.Jur., Arbitration and Award, § 47, p. 878; see, also, Brescia Const. Co. v. Walart Const. Co., 264 N.Y. 260, 190 N.E. 484, 93 A.L.R. 1148. Though the corporate petitioner, Thousand Hats, Inc., was not a party to the agreements here sought to be enforced, for it was not then in existence, yet I am of the opinion that it is properly a party to this proceeding, and, no other obstacle appearing, entitled to enforce the provisions of those agreements, including paragraph 13th, which is the arbitration clause.
In arriving at the conclusion just voiced, it is predicated upon the following, viz., that as respects pre-incorporation contracts — contracts made in the name of an inchoate corporation are not void ab initio but are only enforceable after organization has been completed, on the principle of ratification and estoppel (see Cramer v. Burnham, 107 Conn. 216, 140 A. 477), and upon the principle that the beneficiary of a contract may sue to enforce rights and benefits conferred upon him under it even though he is not a party thereto.
The agreements in question contemplated the formation of a corporation — Thousand Hats, Inc. — and that it should have the rights and benefits of a contracting party; upon approval and filing of the certificate of incorporation, Thousand Hats, Inc., became in legal contemplation an existing corporation and could thereupon avail itself of the rights and benefits of the pre-organization agreements as a beneficiary thereof. A somewhat like contention as here made by the respondent was made in S. B. Rubber Chemical Corp. v. Stein, Sup., 7 N.Y.S.2d 553, 555, affirmed 255 App.Div. 1012, 8 N.Y.S.2d 695, where the court, at Special Term, in overruling the contention, said: "The point urged by defendant that plaintiff corporation was not in existence at the time of the execution of the contract and, therefore, may not now seek specific performance is likewise untenable. To hold otherwise would result in a deprivation of the rights of plaintiff corporation which the parties intended it to have."
The objection of respondent that the corporate petitioner is without standing in this proceeding is therefore overruled.
In urging the right to compel arbitration and for an order staying respondent's action for rescission and damages, the petitioners make the point that by the respondent bringing such suit against the petitioners for a breach of the pre-organization contracts and for the rescission of these contracts because of the breach, respondent has conceded that there is a bona fide dispute between him and petitioner, Jacoby, and that such breaches are disputes as provided for in paragraph 13 of the contract and therefore subject to arbitration under it, equivalent to an election of remedies.
I regard this as an erroneous premise, because it ignores the causes of action for a rescission of these very agreements; this premise, it seems to me, fails to take into account, also, the amendment to Section 112, civil Practice Act, which provided a new section, i.e., Section 112-c, entitled "Claim for damages and rescission not inconsistent; complete relief in one action," and which reads as follows: "A claim for damages sustained as a result of fraud or misrepresentation in the inducement of a contract or other transaction, shall not be deemed inconsistent with a claim for rescission or based upon rescission. In an action for rescission or based upon rescission the aggrieved party shall be allowed to obtain complete relief in one action, including rescission, restitution of the benefits, if any, conferred by him as a result of the transaction, and damages to which he is entitled because of such fraud or misrepresentation; but such complete relief shall not include duplication of items of recovery."
The amendment changes the rule of Weigel v. Cook, 237 N.Y. 136, 142 N.E. 444, that recovery of damages in an action for rescission of a transaction on the ground of fraud or misrepresentation is barred by the doctrine of election of remedies; the purpose is to enable an aggrieved party in a rescission action to obtain complete relief, and the enactment of Section 112-e was recommended by the Law Revision Commission which sought thereby to mitigate the rigor of the ruling in the Weigel case, and which the Commission felt resulted in substantial injustice (see Legis.Doc. No. 65 [L], pages 5-6 [1941]. Thus the inclusion in the complaint of causes of action for damages does not affect or destroy the causes of action to rescind the agreements for the mentioned reasons, nor constitute a concession or waiver of the right to prosecute them and obtain the equitable relief sought. Matter of Kahn's Application, supra, relied on by petitioners, is, in my opinion, without application because the factual situations are not the same; moreover, the bank, in that case, did not seek rescission of the settlement agreement, and the following language of the opinion is significant ( 284 N.Y. at page 523, 32 N.E.2d at page 537): "The court upon a motion to enforce provisions for arbitration has no jurisdiction to determine whether because of fraud or other dereliction on the part of one party to an agreement which contains a provision for arbitration, the other party is entitled to rescind the agreement. The court must pass upon the question whether the written contract providing for arbitration, or the submission to arbitration, was made and whether there was a failure to proceed with the obligation to arbitrate [cases]. If any other question exists in this case it must be determined in an action for rescission and not upon a motion to compel arbitration."
The respondent here proceeded properly in bringing suit for rescission, and is entitled to stay the petitioners from seeking arbitration until the suit for rescission is determined, rather than that petitioners are entitled to stay that suit in order to proceed with arbitration here under the very agreements sought to be rescinded. Upon that point it seems to me that Application of Manufacturers Chemical Co., 259 App. Div. 321, 19 N.Y.S.2d 171, 173, appeal dismissed 283 N.Y. 679, 28 N.E.2d 404, is controlling. There it was sought to stay arbitration until the validity of certain contracts was determined, each of which contracts contained an arbitration clause which it was sought to enforce. From an order denying the application to stay arbitration, the Appellate Division of this Department, in reversing the order, said: "Our conclusion is that the petitioner is entitled to a trial with respect to the allegations in the petition concerning the making of the misrepresentations, their falsity and petitioner's reliance thereon. If proved, the petitioner is in a position where it rightfully has rescinded the contracts. If this be so, no arbitration may be had since the provision therefore in each contract would fall with the contract itself."
It seems clear to me, therefore, that upon all the elements considered, and upon the authorities referred to, that this application should not prevail. Accordingly, the motion is denied in all respects.