Summary
holding that the directors of a closely held corporation, collectively, were the client and that joint clients may not assert the attorney-client privilege against one another
Summary of this case from Montgomery v. Etreppid Technologies, LLCOpinion
Civil Action No. 8604.
Date Submitted: February 6, 1987.
Date Decided: July 29, 1987.
Grover C. Brown, Esquire, Edward M. McNally, Esquire and Mary M. Johnston, Esquire, MORRIS, JAMES, HITCHENS WILLIAMS, Wilmington, Delaware and Robert P. Buford, HUNTON WILLIAMS, Richmond, Virginia, of Counsel, Attorneys for Plaintiffs.
Edmund N. Carpenter, II, Esquire, and William W. Bowser, Esquire, RICHARDS, LAYTON FINGER, Wilmington, Delaware, Attorneys for Individual Defendants.
Aubrey B. Lank, Esquire and Brian A. Sullivan Esquire, THEISEN, LANK, MULFORD GOLDBERG, Wilmington, Delaware, Attorneys for Defendant F.M. Kirby Foundation.
MEMORANDUM OPINION
This action involves a dispute among four siblings over the control of a charitable corporation, the F.M. Kirby Foundation, Inc. (the "Foundation"). In Count I of their amended complaint, plaintiffs, Allan P. Kirby, Jr. ("Allan Kirby"), Grace K. Culbertson and Ann K. Kirby, seek a determination that they, together with their brother, defendant Fred M. Kirby, II ("Fred Kirby"), are the directors of the Foundation. Count II charges Fred Kirby with various breaches of fiduciary duty both in his management of the Foundation's assets and in his election of his wife and four children (the remaining defendants) as members of the Foundation. This is the decision on defendants' motion to dismiss Count I for failure to state a claim and plaintiffs' motion to compel production of documents.
The following is a brief description of the background of the Foundation and the actions that gave rise to this dispute, as recited in the amended complaint. The Foundation was organized in 1931 by F.M. Kirby, the grandfather of plaintiffs and Fred Kirby. It was, and remains, a non-profit corporation dedicated to religious, charitable, scientific, literary and educational purposes. The Foundation's original endowment was apparently less than $1 million; it has since grown to approximately $150 million.
The certificate of incorporation provides, in relevant part:
EIGHTH — The conditions of membership of the corporation are as follows:
1 — Only individuals interested in the objects and purposes of the corporation are eligible to become members. New members of the corporation, without limit as to number, may be elected by a majority vote of the old members. A member may voluntarily withdraw from the corporation at any time. There shall be at all times not less than three members of the corporation, and if, at any time, the total membership shall fall below three members, . . . the two remaining members, or the one remaining member, as soon as practicable, shall elect or select a new member or members at least sufficient to bring the total membership up to three members. . . . [I]n the event that there shall at any time cease to be any members of the corporation, then the executors or administrators of the last three members to have their membership terminated by death, shall elect three new members. If at the time there shall cease to be any members of the corporation, there shall not be as many as three former members whose membership was terminated by death, then the executors or administrators of the last two members or the last one member, as the case may be, to have their or his membership terminated by death, shall elect or select three new members. . . .
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2 — The corporation may establish and put into effect such further rules, regulations and orders governing admission to membership, duties and obligations of members, provisions for suspension, reprimands or expulsion from membership and classification of members as the Bylaws shall from time to time provide and as shall not be inconsistent with Section 1 of this Article.
Eighth Article of the Certificate of Incorporation of the F.M. Kirby Foundation.
The original members of the Foundation were F.M. Kirby and two other gentlemen who are not alleged to have been members of the Kirby family. It appears that the three original members also constituted the Foundation's board of directors. In 1940, F.M. Kirby died and his son, Allan P. Kirby, replaced him as a member and director. In 1953, Fred Kirby was elected a member and director and plaintiffs — Allan P. Kirby's other children — were elected directors.
In 1973, Allan P. Kirby died. Since the other original members of the Foundation had died at some earlier time, Allan P. Kirby's death left Fred Kirby as the sole member of the Foundation. For the next eleven years, Fred Kirby remained the sole member of the Foundation, and he and plaintiffs constituted the entire board of directors. In April, 1986, in the belief that Fred Kirby was still the sole member of the Foundation, Allan Kirby wrote to his brother and requested that each of the plaintiffs be elected members. Fred Kirby wrote back, advising his brother for the first time that he had elected his wife and four children as members several years before. Plaintiffs reacted to this news by amending the Foundation's bylaws at a June 5, 1986 special meeting of the board of directors. The resolution, which was approved over Fred Kirby's negative vote, provides:
RESOLVED that the By-laws be amended so as to provide for the Board of Directors, and only the Board of Directors, to constitute the Members of the Corporation.
Amended Complaint, ¶ 20. The effect of this bylaw, according to plaintiffs, was to make plaintiffs members and to remove from membership Fred Kirby's wife and children. Fred Kirby considered the amended bylaw invalid and of no effect. In August, 1986, he, his wife and his children held a meeting of members at which they purported to remove plaintiffs from the board of directors and elect themselves to it.
Thus, at present Fred Kirby is the only person whose status as a member and director is undisputed. Plaintiffs argue that they are members by virtue of the amended bylaw and, for the same reason, that defendants were unable to remove them as directors. Defendants argue that the amended bylaw is invalid. Therefore, either by the collective votes of Fred Kirby and his family or by Fred Kirby's vote as the sole member, plaintiffs were removed as directors in August, 1986.
The validity of the amended bylaw turns, in part, upon whether it conflicts with the certificate of incorporation. Essential Enterprises Corp. v. Automatic Steel Prods., Del. Ch., 159 A.2d 288, 289 (1960); 8 Del. C. § 109(b). The conflict, if there is one, arises from the provisions of Section 1 of Article Eighth. That section states that "[n]ew members . . . may be elected by majority vote of the old members." There must be at least three members at all times and, if there are less than three, Section 1 requires the remaining members to select a sufficient number of new members to bring the total to at least three. If there are no members, the executors of the last three people whose memberships were terminated by death are required to select three new members.
Plaintiffs argue that, although Section 1 specifies two methods by which members may be selected, it does not proscribe all others. Nowhere in Section 1 is there any express restriction on the power of the board of directors to elect new members. Section 1 provides only that new members may be elected by old members. Plaintiffs argue that the use of the word "may" indicates that the power granted in Section 1 is non-exclusive. Moreover, Section 2 empowers the board of directors to make rules, regulations and orders governing admission to and expulsion from membership. Plaintiffs argue that, given this broad grant of power to the directors, it is entirely consistent to read Section 1 as they suggest. The amended bylaw does not preclude the members from exercising any of the powers conferred in Section 1. They may elect new members by, at the same time, electing the proposed member a director. Since the Court should attempt to reconcile the amended bylaw with the certificate, Essential Enterprises Corp. v. Automatic Steel Prods., Inc., supra, and such a reconciliation is possible by reading Section 1 as non-exclusive, plaintiffs argue that it would be inappropriate to dismiss Count I.
Defendants argue that Section 1 of Article Eighth is clear and unambiguous. They say that it establishes the only methods by which a person may become a new member. The statement that new members "may" be elected by old members in no way suggests that the board of directors also may elect new members. Rather, defendants argue that the use of the word "may" merely grants the old members discretion to elect new members or not as they see fit. Defendants also contend that, if the construction advanced by plaintiffs were accepted, a significant portion of Section 1 would be superfluous. As noted above, Section 1 sets forth steps to be taken by the remaining members or the executors of deceased members to bring the total membership up to at least three if the membership falls below that level. Those provisions, they say, would be unnecessary if the directors had the power to elect new members.
In addition, defendants argue that the amended bylaw conflicts with Section 1 because it limits the number of members of the Foundation. Section 1 provides that members may elect new members "without limit as to number." However, the amended bylaw requires that members be directors and defendants assert that a pre-existing bylaw provides that there shall be six directors. Thus, indirectly, the amended bylaw limits the number of members to six.
Even if the Court were to find that the amended bylaw does not conflict with the certificate, defendants contend that the amended bylaw must be stricken as being inequitable. Relying upon such cases as Schnell v. Chris-Craft Industries, Inc., Del. Supr., 285 A.2d 437 (1971), and In re Osteopathic Hospital Ass'n of Delaware, Del. Ch., 191 A.2d 333, aff'd, Del. Supr., 195 A.2d 759 (1963), defendants say that the amended bylaw gives plaintiffs absolute control over the Foundation and, thus, constitutes an egregious subversion of corporate democracy which should not be tolerated by this Court.
On a motion to dismiss for failure to state a claim, all inferences must be construed in plaintiff's favor, and the motion must be denied unless the claim is clearly without merit as a matter of fact or law. Rabkin v. Phillip A. Hunt Chemical Corp., Del. Supr., 498 A.2d 1099 (1985). All well pleaded factual allegations must be accepted as true, but unsupported conclusions of fact and conclusions of law are not deemed admitted. Weinberger v. UOP, Inc., Del. Ch., 409 A.2d 1262 (1979). Thus, plaintiffs' allegation that the bylaw is not inconsistent with the certificate of incorporation is not deemed admitted because that allegation is a conclusion of law. On the other hand, defendants will not be able to prevail on their motion to dismiss unless the Court can determine that the amended bylaw would be invalid under any set of facts plaintiffs might be able to prove.
In deciding whether the amended bylaw conflicts with the certificate, the Court uses the rules applied to interpret statutes, contracts and other written instruments. Hibbert v. Hollywood Park, Inc., Del. Supr., 457 A.2d 339 (1983). If the provisions in question are unambiguous, they must be applied as written, giving the language chosen its ordinary meaning. The provisions are ambiguous only if they are reasonably susceptible of different interpretations. The fact that the parties disagree as to the meaning of Article Eighth does not create an ambiguity.Id.
I agree with defendants that the use of the word "may" in Section 1 of Article Eighth is unambiguous. That section not only provides that members "may" elect new members but also goes into some detail as to what must be done if the membership drops below three. The remaining member(s) "shall" elect one or two more members, as necessary, to bring the total up to three. If there are no remaining members, then the executors of the last three members to have had their membership terminated by death, again, "shall" elect three new members.
Section 1, read as a whole, eliminates any ambiguity as to the meaning of the word "may." As a general matter, members are empowered to elect new members (i.e., they "may"), whereas under certain specified circumstances they are required to do so (they "shall"). In context, the only reasonable interpretation is that the word "may" is meant to be permissive. However, by accepting defendants' interpretation of the word "may," it does not necessarily follow that the provisions of Section 1 are exclusive and that the directors, therefore, are precluded from electing members. All that can be said on the basis of this analysis is that Section 1 does not implicitly allow for alternative methods of electing members.
The fact that Section 1 details the steps to be taken by members or their executors to correct "below minimum" membership, likewise, does not compel the conclusion that it is exclusive. Defendants contend that it would be unnecessary to provide for the situation where there are no members or fewer than three members if the directors could correct such a circumstance themselves. However, there is no assurance that, at such a time, there would be any directors. If the directors and members are the same, as appears to have been the case at the time the Foundation was created, then, upon the death of all the members, there would be no directors. It is possible that the drafters of the certificate included the below minimum provisions in Section 1 in contemplation of such a "worst case" scenario. When viewed from this perspective, the below minimum provisions would not be superfluous even if the directors were empowered to elect members.
Reading beyond Article Eighth, I find that the certificate as a whole may be reasonably read to support either side's contention. Defendants' interpretation could be viewed as being more consistent with the overall corporate structure of the Foundation. From the certificate it appears that the members generally are not involved in the day-to-day operations of the Foundation, but exercise their control over the Foundation through the election of directors and the power to make bylaws. The directors are granted broad authority to manage the affairs of the Foundation subject to the members' approval of certain substantial transactions. If the directors were also empowered to elect members, they would be able to perpetuate themselves in office by enacting the type of bylaw at issue here. Such a result, arguably, would alter the corporate structure by giving each group — the members and the directors — the power to remove and replace the other.
However, this is a non-stock charitable corporation and the members, unlike stockholders of a for-profit corporation, have no vested interest in remaining members. Bailey v. A.S.P.C.A., N.Y. App. Div., 125 N.Y.S.2d 18 (1953), aff'd, N.Y. Ct. App., 120 N.E.2d 853 (1954). In Section 2 of Article Eighth, the certificate expressly grants the board of directors substantial control over who may become and who may remain members. The directors may adopt bylaws governing admission to membership, duties and obligations of members, classification of members and expulsion from membership. Since the directors are expressly empowered, among other things, to expel members, it would not necessarily be inconsistent with the corporate structure established by the certificate for the directors to have the corollary power of electing members.
Article Tenth would support such an expansive reading of the directors' powers. That section provides, for example:
TENTH — In furtherance and not in limitation of the powers conferred by law, the board of directors in [sic] expressly authorized:
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4 — In the exercise of an absolute and uncontrolled discretion, to make any and all donations, gifts, contributions and loans which the corporation may make pursuant to this certificate of incorporation, without responsibility or accountability to the members of this corporation for any such donations, gifts, contributions or loans in any respect whatever; subject, nevertheless, to the provisions of the statutes of Delaware.
Article Tenth concludes by providing that the bylaws may "confer upon the directors and officers powers and authorities additional to those expressly conferred upon them by law and by this certificate." While the provisions of Article Tenth do not directly bear on the question of the directors' power to elect members, they do confer broad powers on the directors and arguably suggest that the certificate should be read as authorizing the board to do anything not expressly prohibited by the certificate or by statute. If this analysis were accepted, plaintiffs' interpretation would be viable.
Based upon the foregoing, I conclude that the certificate is ambiguous with respect to the purported power of the directors to elect members. It thus becomes necessary to apply the rules of construction to ascertain the meaning of Article Eighth in this context. The purpose of those rules is to reach a result that will give effect to the intent of the drafters, and it is appropriate to look to extrinsic circumstances in carrying out this process. Gluckman v. Holzman, Del. Ch., 51 A.2d 487 (1947). If plaintiffs were able to establish, for example, that the founder did not intend Article 1 of Section Eighth to be exclusive, the defense of invalidity based upon the asserted inconsistency between the amended bylaw and the certificate would fail. Accordingly, defendants' motion to dismiss on this ground is denied.
Alternatively, defendants argue that the amended bylaw impermissibly limits the total number of members and that it is inequitable. The limitation on membership argument fails because the amended bylaw, by its terms, does not set any limit on the number of directors and, thus, sets no limit on the number of members. There is, apparently, another bylaw limiting the number of directors to six. However, there is no evidence that the earlier bylaw was enacted by the members and, therefore, beyond the power of the directors to amend or repeal. Thus, if necessary to avoid a conflict with the certificate, the amended bylaw may be found to have impliedly repealed that portion of the former bylaw limiting the number of directors to six. See Board of Assessment Review of New Castle County v. Silverbrook Cemetary Co., Del. Supr., 378 A.2d 619 (1977). Accordingly, dismissal is not warranted on this theory.
Defendants' equitable argument, likewise, cannot be resolved on a motion to dismiss. The complaint alleges that plaintiffs' grandfather, the founder, intended that the Foundation be run by the Kirby family through the generations. Consistent with that intent, plaintiffs and Fred Kirby were directors for more than thirty years and were the sole directors for thirteen years following their father's death. From plaintiffs' perspective, the amended bylaw does not usurp control from defendants. Rather, it preserves the joint participation of all branches of the Kirby family in the operation of the Foundation. Giving plaintiffs the benefit of all inferences to be drawn from their allegations, I am unable to conclude that the amended bylaw must be condemned as an impermissible manipulation of the corporate machinery. Cf. Schnell v. Chris-Craft Industries, Inc., supra. For the foregoing reasons, defendants' motion to dismiss is denied.
The remaining matter to be decided is plaintiffs' motion to compel production of fifteen documents withheld by defendants on the ground of attorney-client privilege. Eleven of the documents are communications between Fred Kirby or Robert Lindblom ("Lindblom"), the Foundation's secretary, and the law firm of Olwine, Connolly, Chase, O'Donnell and Weyher ("Olwine"), the Foundation's general counsel. Two are Olwine interoffice memoranda pertaining to the tax status of the Foundation. One is a note from Lindblom to Fred Kirby commenting on communications from Olwine pertaining to the tax status. The last is undated and consists of notes of legal matters to be discussed with Olwine. Of the fourteen dated documents, half were created before August 13, 1986 — the day on which defendants attempted to remove plaintiffs as directors — and the other half were prepared after that time. All of the documents are in the Foundation's files, and plaintiffs do not question defendants' assertion that the documents satisfy the requirements of D.R.E. 502(d) or the common law requirements for the assertion of the attorney-client privilege.
Defendants argue that a corporation, its officers and directors are entitled to invoke the attorney-client privilege, Graham v. Allis-Chalmers Mfg. Co., Del. Supr., 188 A.2d 125 (1963), and rely on this Court's holding in Hollingsworth v. Essence Communication, Inc., Del. Ch., Civil Action No. 5312, Hartnett, V.C. (July 15, 1977), to support assertion of the privilege in a § 225 proceeding. However, neither those cases nor any others cited by defendants address the question of whether the attorney-client privilege may properly be invoked by the corporation against those who were admittedly its directors at the time the documents were prepared.
As to those documents prepared prior to August 13, 1986, I am not persuaded that the attorney-client privilege may be invoked against plaintiffs. The issue is not whether the documents are privileged or whether plaintiffs have shown sufficient cause to override the privilege. Rather, the issue is whether the directors, collectively, were the client at the time the legal advice was given. Defendants offer no basis on which to find otherwise, and I am aware of none. The directors are all responsible for the proper management of the corporation, and it seems consistent with their joint obligations that they be treated as the "joint client" when legal advice is rendered to the corporation through one of its officers or directors.
Defendants argue that any rights plaintiffs might have had to privileged documents were extinguished on August 13, 1986 when they were purportedly removed from office. They point to authorities from other jurisdictions for the proposition that the statutory right to examine corporate books and records, such as that conferred by 8 Del. C. § 220, is lost as soon as a director leaves office. Plaintiffs' rights under § 220, whatever they may be, are irrelevant. Plaintiffs are seeking discovery in support of a colorable claim and are entitled to the documents unless they are protected from disclosure by a valid claim of privilege. As to the documents generated prior to August 13, 1986, I find that there is no basis for the invocation of the attorney-client privilege and, accordingly, that plaintiffs' motion to compel must be granted.
In their brief, defendants made passing reference to a separate claim of attorney work product privilege. However, in their identification of the withheld documents in a letter dated November 20, 1986, defendants did not identify any documents as being withheld on that basis and there is no argument in the brief in support of a work product privilege. Accordingly, I assume that the only basis on which the documents have been withheld is the claim of attorney-client privilege.
The documents generated after August 13, 1986 raise different considerations. Notwithstanding plaintiffs' claim that they continue to be directors of the Foundation, the fact is that corporate action was taken to remove them from office on August 13. It is reasonable to infer from the complaint that, thereafter, plaintiffs did not participate in board meetings or corporate decisions and were treated by the corporation as having no remaining interest in corporate affairs. Under these circumstances, it would indeed be a "fiction" to say that plaintiffs were the clients to whom the legal advice was rendered. Accordingly, the question is whether, by analogy to a stockholder seeking privileged documents in support of a derivative claim, plaintiffs should be allowed discovery upon a showing of good cause. See Garner v. Wolfinbarger, 430 F.2d 1093 (5th Cir. 1970), cert denied, 401 U.S. 974 (1971);Moran v. Household International, Inc., et al., Del. Ch., Civil Action No. 7730, Walsh, V.C. (September 18, 1984). Defendants argue that plaintiffs, as former directors who "seek solely to benefit themselves at the expense of members and directors of the Foundation," should not be equated with stockholders asserting a claim on behalf of the corporation. Brief of Defendants in Opposition to Plaintiffs' Motion to Compel Documents, at 10. If defendants' characterization were accurate, their position would merit serious consideration. See Weil v. Investment/Indicators, Research Management, Inc., 647 F.2d 18 (9th Cir. 1981) (holding that the Garner rationale does not apply where a former stockholder seeks damages from the corporation). However, plaintiffs here are not seeking damages from the corporation and, although they may obtain a personal benefit if their claims to office are sustained, a § 225 proceeding has long been recognized as serving the interests of the corporation as a whole. See Fleer v. Frank H. Fleer Corp., Del. Ch., 125 A. 411, 416 (1924) (The purpose of the statute "is to right wrongs done to a corporation, not to its individual stockholders, through the unlawful usurpation of its management and offices by persons not entitled thereto.")
Inasmuch as a § 225 proceeding promotes the interests of the corporation and all of its constituents by determining those who are properly empowered to manage the corporation, I find that the analogy to a stockholders' derivative action is appropriate. As a result, plaintiffs' motion to compel documents generated after August 13, 1986 should be measured against the standards articulated in Garner, as appropriate:
There are many indicia that may contribute to a decision of presence or absence of good cause, among them the number of shareholders and the percentage of stock they represent; the bona fides of the shareholders; the nature of the shareholders' claim and whether it is obviously colorable; the apparent necessity or desirability of the shareholders having the information and the availability of it from other sources; whether, if the shareholders' claim is of wrongful action by the corporation, it is of action criminal, or illegal but not criminal, or of doubtful legality; whether the communication related to past or prospective actions; whether the communication is of advice concerning the litigation itself; the extent to which the communication is identified versus the extent to which the shareholders are blindly fishing; the risk of revelation of trade secrets or other information in whose confidentiality the corporation has an interest for independent reasons.Garner v. Wolfinbarger, 430 F.2d at 1104. As Garner suggests,in camera inspection would assist the Court in deciding whether plaintiffs' interest in obtaining the documents outweighs the Foundation's privilege. Accordingly, I request that defendants submit the seven documents generated after August 13, 1986 as well as the one undated document for in camera review.
IT IS SO ORDERED.