Opinion
No. 25868
Decided July 15, 1936.
Corporations — Separate entities of parent and subsidiary not disregarded, when — Parent corporation not liable for acts and obligations of subsidiary — Control through stock ownership and common officers — Proof necessary of fraudulent purpose and domination resulting in defrauding.
The separate corporate entities of a parent and subsidiary corporation will not be disregarded and the parent corporation will not be held liable for the acts and obligations of its subsidiary corporation, notwithstanding the facts that the latter was controlled by the parent through its stock ownership, and that the officers and directors of the parent corporation were likewise officers and directors of the subsidiary, in the absence of proof that the subsidiary was formed for the purpose of perpetrating a fraud and that domination by the parent corporation over its subsidiary was exercised in such manner as to defraud complainant.
APPEAL from the Court of Appeals of Cuyahoga county.
On May 31, 1922, The Cleveland Trust Company, a banking institution in the city of Cleveland, owner of the fee in trust of real estate fronting on Chester avenue, East 13th street and Euclid avenue in Cleveland, Ohio, entered into a 99-year lease with The Crowell Little Securities Company, a corporation, as lessee, covering said premises.
On June 1, 1922, The Crowell Little Securities Company subleased to The Higbee Realty Company, a subsidiary of The Higbee Company, for a period of time expiring December 31, 2007, that portion thereof upon which was situated the Higbee Building, so-called, at a rental of $170,000 per year, plus taxes and assessments, with a provision binding the realty company to erect improvements thereon at a cost of $700,000 by July 1, 1923. This lease was duly recorded in the records of Cuyahoga county.
The Higbee Realty Company, in turn, sublet its leased premises to The Higbee Company for a period of ten years. Three and a half years later, namely, on October 1, 1925, The Crowell Little Securities Company sold and assigned its lease to The Union Trust Company as trustee, and the latter issued leasehold trust certificates, each representing an interest or proportional ownership in the lease in which The Crowell Little Securities Company was sublessor. These certificates are held by plaintiffs and others on whose behalf this suit is brought.
Within the time stipulated in the lease, The Higbee Realty Company erected improvements upon the leased premises which far exceeded the $700,000 limit.
Some years later, but prior to the expiration of the ten-year lease mentioned above, The Higbee Company moved to a new location and continued to pay its rent to the realty company until the ten-year lease had expired. Thereafter, The Higbee Realty Company, being unable to procure a new tenant, defaulted in the payment of its rent to The Union Trust Company, trustee, as a result of which the leasehold trust certificate holders were not receiving payments upon their certificates. Meanwhile, The Union Trust Company was taken over by the Superintendent of Banks for the purpose of liquidation. Though requested by plaintiff, as leasehold certificate holder, to bring suit against The Higbee Realty Company and The Higbee Company for rent and taxes, the Superintendent of Banks refused and plaintiff brought what is termed a "class" suit on behalf of herself and other certificate holders, seeking payment of the taxes and rents which the realty company defaulted, and obtained judgment for the sum of $769,598.48, which judgment was affirmed by the Court of Appeals. This judgment was rendered, not against the Higbee Realty Company, the lessee, a subsidiary of The Higbee Company, but against The Higbee Company, its parent corporation.
The cause is now in this court on the allowance of a motion to certify the record.
Messrs. Day Day, Messrs. Horwitz, Kiefer Harmel and Mr. Donald W. Kling, for Amanda C. North and Harvey Brobst, appellees.
Messrs. Tolles, Hogsett Ginn, for The Higbee Company, appellant.
Messrs. McKeehan, Merrick, Arter Stewart and Mr. L.C. Wykoff, for A.A. McCaslin, receiver, appellee.
Mr. L.F. Laylin, for Superintendent of Banks and The Union Trust Company, trustee, appellees.
The Higbee Realty Company was organized in 1919 by The Higbee Company which was doing a large mercantile business throughout northern Ohio. Its purpose in organizing the subsidiary was to sever itself from its realty holdings and to confine itself to the mercantile business.
Plaintiff relies for recovery upon the doctrine of disregarding the separate entities of the parent and subsidiary corporation and of holding the parent liable for the obligations of the subsidiary upon the theory that the latter was controlled by stock ownership in the former. It is not disputed that the stock ownership of the subsidiary was in the parent company, the officers and directors of which were also the directors of the subsidiary. Two of these directors were Asa Shiverick, who was president of both companies, and one Austin V. Cannon, an attorney of Cleveland, who was not only director, but who also acted as legal counsel for both companies.
In the opinion of the trial court, no fraud appeared to have been shown on the part of either subsidiary or parent. The legal proposition involved was stated by that court as follows: "Can the court disregard the fiction of separate corporate entity of the subsidiary corporation when the facts disclose that a wrong and an injustice has been perpetrated upon innocent third persons in the absence of fraud or illegality and hold the parent company liable for the obligations of its subsidiary?" (Italics ours.)
The trial court frankly stated that counsel on both sides were not in agreement with the law applicable to the case and stated that many of the cases cited had no application to the facts found by the court. With this we can readily agree. A great many cases have been cited by counsel on both sides, a larger number of which concern, not contracts between private individuals, but contracts entered into by a subsidiary, such as railroads or other public utilities, which seek to evade public policy or statute law, whose tendency results in the creation of a monopoly or the evasion of duties which the corporations owe to the public. Many of them relate to intercorporate contracts by railroads or by public utilities concerning tariffs or rates which the public is required to pay. When we read those decisions in that light, such contracts affecting the public are readily distinguishable from those entered into between individuals or corporations in which the public is not concerned.
In its opinion, the trial court relied upon the Michigan case of People, ex rel. Potter, Atty. Genl., v. Michigan Bell Telephone Co., 246 Mich. 198, 224 N.W. 438, the syllabus of which reads: "Where a corporation is so organized and controlled and its affairs so conducted as to make it a mere instrumentality or agent or adjunct of another corporation, its separate existence as a distinct corporate entity will be ignored and the two corporations will be regarded in legal contemplation as one unit." That case pertained to telephone rates.
Forty days after the trial court's opinion in the instant case was filed, the Supreme Court of Michigan, in a case argued before the entire bench, where a private contract was involved — one not affecting public interest — decided the case of Gledhill v. Fisher Co., 272 Mich. 353, 262 N.W. 371. The Supreme Court of Michigan distinguished the telephone case relied on by the trial court by using the following language: "However, in that case the disregard of the corporate entity was impelled by the finding of the court that the relationship of parent and subsidiary was being used as a device to justify rates which were not based upon the real cost to the public utility of the service for which it charged, the court distinctly stating: 'When a corporation exists as a device to evade legal obligations, the courts, without regard to actual fraud, will disregard the entity theory.' " We shall later allude to the case of Gledhill v. Fisher, supra.
Powell, in his work on "Parent and Subsidiary Corporations" (1931), states on page 10, the legal proposition as follows:
"It is familiar law in all jurisdictions in this country that ownership of stock alone will not render the parent corporation liable. This is but a statement of the fundamental rule that stockholders are not liable for the corporate obligations. The result is the same whether the parent company owns all the stock, or all except directors' qualifying shares or a small amount in outside hands."
And again, on page 91, in dealing with the theory of agency existing between parent and subsidiary, and expressing the opinion that the parent is not liable as principal for the acts of its subsidiary unless it expressly authorizes the act, the author states:
"A large corporation organizes a small subsidiary to conduct a limited and special branch of its business. The parent corporation owns all its capital stock, furnishes it with its initial working capital and finances it from time to time as occasion requires. The directors and officers of the two corporations are the same, their principal executive offices are in the same suite of rooms, their respective books of accounts are kept by the same employees. The executives devote ninety-nine per cent of their time and attention to the affairs of the parent corporation and one per cent to those of the subsidiary. All the legal requirements of the subsidiary as a separate corporation, however, are scrupulously observed and its business is efficiently managed.
"Now the law is clear, as we have shown, that under these circumstances the parent corporation is not liable for the subsidiary's obligations."
In the instant case, all the legal requirements of the subsidiary as a separate corporation were observed, under the supervision and direction of A.V. Cannon, an attorney, who acted as counsel for both parent and subsidiary.
Coming now to the consideration of cases decisive of the legal question here presented, we will refer only to those cases which relate purely to contracts of subsidiaries and which nowise concern the public. Majestic Co. v. Orpheum Circuit, 21 F.2d 720, was decided by Judges Kenyon, Molyneaux and Sanborn, composing the Circuit Court of Appeals of the Eighth Circuit. The syllabus reads in part as follows:
"3. A corporation is not liable for acts or obligations of another corporation merely because it controls such other corporation by reason of ownership of its stock.
"4. Generally a corporation will be regarded as a legal entity, and the courts will ignore the fiction of corporate entity and regard corporation as an association only when circumstances justify it, where it is used as a blind or instrumentality to defeat public convenience, justify wrong, or perpetrate a fraud.
"5. Where corporation, organized for purpose of operating a theater, was a legal entity separate and distinct from another corporation owning stock thereof, its contract obligations were not obligations of corporation owning the stock so as to create liability for rent under lease of theater building after sale of stock, in absence of other circumstances which must be substantiated by clear and positive proof." (Italics ours.)
The case of Richmond I. Const. Co. v. Richmond, 68 F., 105, was decided by the Court of Appeals of the Sixth District, and was heard before Judges Taft, Lurton and Severens. The first proposition of the syllabus reads:
"The fact that the stockholders in two corporations are the same, or that one corporation exercises a control over the other, through ownership of its stock, or through the identity of the stockholders, such corporations being separately organized under distinct charters, does not make either the agent of the other, nor merge them into one, so as to make a contract of one corporation binding upon the other."
While this case was brought against a railroad as the parent company, it did not involve a transaction which affected the public. In the course of the opinion, on page 108, Mr. Lurton, circuit judge, said:
"It contends that under the evidence in this case the contract company was, in legal effect, the railroad company, and that engagements made by it, were, in legal effect, engagements made by the railroad company. In support of this, appellant has endeavored to show that the stockholders in each corporation were the same, and that the contract company dominated and controlled the railroad company. * * * The contract company was a legal corporation, wholly distinct and separate from the railroad company. The fact that the stockholders in each may have been the same persons does not operate to destroy the legal identity of either corporation. Neither does the fact that the one corporation exercised a controlling influence over the other through the ownership of its stock or through the identity of stockholders, operate to make either the agent of the other, or to merge the two corporations into one. There is no pretense of any fraudulent concealment of the interest of the one corporation in the other, or of the fact that the persons controlling the one corporation likewise controlled the other."
What was said by the learned judge of the federal Court of Appeals can be applied to the instant case. The Higbee Company and the realty company were distinct and separate corporations. There was no concealment of the fact that the parent company owned substantially all the stock of the subsidiary. There was no concealment of the fact that the lessee, the realty company, entered into an obligation to pay the rentals as they accrued. That lease is on record and was constructive notice to all who dealt with the property. Nor was there any fraudulent concealment of the fact that the lessor looked to the realty company for its rentals. Practically all the evidence contained in this record relates to conversation, letters or exhibits concerning transactions which occurred two years or more before the certificate holders acquired any interest in this property. Moreover, not one of the certificate holders testified that he was misled or that he had ever heard of any of the instances which the plaintiffs now rely upon as showing bad faith upon the part of the parent company. But one certificate holder testified, he being an owner of six certificate shares; and his testimony related only to the fact of ownership.
We have referred to the case of Gledhill v. Fisher, supra, and have stated that it was decided forty days after the trial judge filed his opinion in the instant case. Of all the cases cited by counsel, this Michigan case is on all fours with the instant case. Since the remedy sought, the legal question involved and the facts appearing in that case are so similar to this, we shall quote more extensively than usual from the syllabus and opinion of the Michigan case which, so far as we can find, is the most recent case treating of the doctrine of parent and subsidiary. The syllabus reads in part as follows:
"3. To justify treating sole stockholder or holding company liable as responsible for a subsidiary corporation, it is not enough that the subsidiary is so organized and controlled as to make it merely an instrumentality, conduit or adjunct of its stockholders but it must further appear that to recognize their separate entities would aid in the consummation of a wrong.
"4. Relief against a parent corporation should be granted only if a refusal to do so would result in an unjust loss or injury to the complainant since a refusal to recognize the ordinary immunity of stockholders not only overturns a basic provision of statutory or common law but is also contrary to a vital economic policy of the whole corporate concept.
"5. Parent corporation held, not liable on land contract of its wholly-owned subsidiary where plaintiff vendors did not know of real party in interest when contract was executed, relied upon corporate vendee as sole and actual purchaser and advance no claim that the parent corporation diverted assets of subsidiary in suit brought after insolvency of vendee, and property had depreciated in value so as to inadequately secure balance of purchase price.
"6. Organization of a corporation for the avowed purpose of avoiding personal responsibility does not in itself constitute fraud justifying the disregard of the corporate entity and those dealing with a corporation know, or are presumed to know, the law in this regard."
"9. A corporation may form a subsidiary to protect itself from personal liability and make only the capital of the subsidiary liable for the latter's obligations."
"16. In suit to enforce liability against alleged parent corporation of insolvent corporate land contract vendee, record held, insufficient to show vendee was the agent or tool of such parent corporation or that subsidiary was not organized in good faith to pay for, acquire and hold property purchased."
In the instant case, the parent company is being sued for the installments of rent on a contract made by its subsidiary. In the Gledhill case, the parent company was being sued for installments of the purchase money on a land contract which the subsidiary had executed. At the time the contract was made, plaintiffs had sold their property to the subsidiary for $125,000, of which $15,000 was paid down. Payments were made until the balance was reduced to something over $100,00 and, as stated by the court, was adequately secured, were it not for the subsequent depreciation in values. In the course of the opinion it was stated, at page 359:
"The organization of a corporation for the avowed purpose of avoiding personal responsibility does not in itself constitute fraud justifying the disregard of the corporate entity. In Elenkrieg v. Siebrecht, 238 N.Y. 254, ( 144 N.E. 519, 34 A.L.R., 592), the court stated:
" 'Whether or not the corporation is the creature of Siebrecht is not a determining feature. Whether it be a subterfuge is misleading. Many a man incorporates his business or his property and is the dominant and controlling feature of the corporation. He may do so for the very purpose of escaping personal liability.'
"Wormser, in his 'Disregard of the Corporate Fiction and Allied Corporate Problems,' goes far in holding a parent corporation liable for the debts of its subsidiary where the latter is formed for a fraudulent purpose, but he distinctly limits the rule as follows (p. 18):
" 'It follows that no fraud is committed in incorporating for the precise purpose of avoiding and escaping personal responsibility. Indeed, that is why most people incorporate, and those dealing with corporations know, or at least are presumed to know, the law in this regard.'
"The law permitted a corporation to own and hold stock in a subsidiary. 2 Comp. Laws 1929, §§ 9968 and 10018-10026. The capital stock constituted a trust fund for the payment of the debts of the corporation. Clark v. E. C. Clark Machine Co., 151 Mich. 416 [115 N.W. 416]; Peninsular Savings Bank v. Black Flag Stove Polish Co., 105 Mich. 535 [63 N.W. 514]. A stockholder in a corporation that owns another is not a stockholder in the latter. Sabre v. United Traction Electric Co. [district court] 225 F. 601. A subsidiary may be formed for the very reason that prompts individuals to form corporations, to protect themselves from personal liability, to make only its capital liable, to say to those that deal with it, 'here is the amount of our capital stock; we are a bona fide corporation organized for legitimate purposes and doing business in a legal manner. If you want to deal with us on the basis of our liability as shown by our capital set up, you may do so, and if not, you may refrain from so doing.' There was no fraud in the purchase of the property by the subsidiary without disclosing the ownership of its capital stock. The record does not show that any reliance was placed on who the purchasers were. It was a time when there was a tremendous inflation in real estate, as evidenced by the many cases that have reached this court. The depression and accompanying deflation in values was not foreseen. Plaintiffs and their vendee agreed upon a price. Plaintiffs knew or should have known that they could only look to the corporation vendee, or the property in the event of a default. A large down payment was made, the depression came, plaintiffs took back their property and retained all that had been paid on it by vendees."
Practically this entire record relates to transactions occurring long before October 1, 1925, when The Union Trust Company and its leasehold trust certificate holders came into the picture. The chief incident occurred on January 31, 1923, and it is to that incident we shall now refer, since the trial judge relied upon its significance in arriving at the judgment which he rendered. It appears that on that date one who had charge of the books of the realty company entered a notation which consisted in part of the following: "To transfer assets and liabilities to The Higbee Company." If, as plaintiff's counsel contends and the trial court seems to hold, this entry in itself furnished proof that the realty company in fact assigned its assets to the parent company for the purpose of escaping its obligations, this would be tantamount to a legal fraud. The only proof upon this incident offered by the plaintiff was the book entry. The trial court came to the conclusion that there was an actual transfer of assets by the subsidiary and an assumption of liabilities by the parent company. In its opinion, it said: "The court believes that these book entries are of special significance."
The trial court's finding that this was a diversion of the subsidiary's assets by transference to the parent company was erroneous for the following reasons:
(1) Every witness who testified upon the subject, including three officers of the parent company and one Bender, a certified public accountant for Ernst Ernst, positively testified that there was no transfer of assets from the realty company to The Higbee Company. Mr. Bender was asked: "Q. Did you find anywhere in the books, Mr. Bender, evidence that the leaseholds of The Higbee Realty Company had been assigned or transferred or conveyed to The Higbee Company? A. I did not." While the evidence of The Higbee Company's officials may be said to have been given by interested witnesses, Mr. Bender's evidence cannot fall within that category. It was not contradicted; nor was there any evidence showing that there was a transfer of assets.
(2) Substantially all of the assets of the realty company were composed of real estate; namely, its leaseholds and buildings, which had cost more than $1,750,000. To argue that real estate of this character can be assigned or transferred by simple book entry would be to argue a legal absurdity. To pass title in this state, deeds of transfer must be executed according to the form required by our statutes.
(3) Another complete answer to the assumption that there was a transfer of assets is found in the undisputed fact that the realty company withheld assets which in 1925 amounted approximately to $2,000,000.
On October 1, 1925, The Crowell Little Securities Company, which owned the underlying lease, assigned it to The Union Trust Company as trustee under an agreement and declaration of trust of the same date, which was required to be and was filed for record with the Recorder of Cuyahoga county. In that instrument the trustee declared that it held leasehold estates and rents assigned to it by the securities company in trust for the use and benefit of all certificate holders of equitable ownership issued under the trust agreement. The instrument also declared that the trust estate was to be divided into 1920 shares to be designated as "leasehold trust certificates." Thereafter the trustee bank issued certificates to certificate holders who bought the shares. The certificates recited that they were issued under and in pursuance of a declaration of trust dated October 1, 1925, between the trustee and themselves, the declaration being on record in the office of the County Recorder. The certificate bore upon its face the statement that reference to the declaration was made "for a statement of the rights and title of the holders of this Certificate and all other Certificates issued under the Declaration, in said property, and of the terms and conditions of said trust." The certificates issued to purchasers also contained the statement that their holder, by acceptance thereof, "expressly assents to all the terms and conditions of the Declaration and becomes a party thereto as fully to all intents and purposes as if said holder had signed the Declaration."
The original plaintiff in this action purchased 20 of these certificates. Later, because of her physical and mental disability, one Brobst, owning six shares, intervened and prosecuted this action. In connection with, and as a part of the transaction, The Union Trust Company issued its prospectus with a view to the sale of the 1920 shares it held in trust. This prospectus stated that the certificates were dated October 1, 1925; and since it was after this date that the certificate holders became interested in the leasehold property, it is fitting that this court should examine the record for the purpose of ascertaining whether, in fact, any fraud or wrong to the certificate holders had been committed by the parent company. The prospectus was issued by The Union Trust Company and was not signed by either the subsidiary or the parent company. The only reference to those companies made by the trustee in its prospectus is a statement advising the certificate purchasers of the fact that The Higbee Realty Company was owned by The Higbee Company, and that the realty company was the largest individual sublessee. This advised the certificate holder of the relationship of the two companies and, had they used their prerogative of examining the records of Cuyahoga county, they would have discovered the fact that the lease of June 1, 1922, under which the obligations for rent were assumed, was signed by "The Higbee Realty Company" and not by The Higbee Company. Everyone dealing with this leasehold property must be held to have had constructive notice of the character of its title and the terms upon which it was held.
Coming now to the question whether any wrong was perpetrated before the certificate holders became interested in the leasehold property, we think the record discloses beyond question that the parent company committed none; nor was anything done by it to mislead either the trustee or the certificate holders. From 1921 until 1929, A.C. Coney, vice president of The Union Trust Company and in charge of its bond department, conducted the transaction which ended in the issuance of the leasehold certificates to purchasers. At the time he testified, however, he was an officer of The National City Bank. He testified that "The information as to the security on the values came from The Crowell Little Securities Company," and he testified further that knowledge of the sum of $2,259,536 contained in the prospectus of 1925 was probably obtained from The Crowell Little Securities Company and from Ernst Ernst, public accountants. Whether he talked to any others, he did not remember. Mr. Coney testified that he knew all about the ten-year lease which the realty company had made with the parent company at the time he entered into the Union Trust agreement, saying that at that time the ten-year lease still had seven years to run from the time they put out the certificates. He testified further that on October 1, 1925, when the leasehold trust certificates were issued, he was familiar with the fact that The Higbee Realty Company held the sublease to the leasehold property and that, to his knowledge, "The Higbee Company was in no way bound on that sublease;" and that at the time he knew that the lease and buildings were owned by The Higbee Realty Company as distinguished from The Higbee Company. Mr. Coney was asked:
"Q. Was it, to your knowledge, that The Higbee Company was in no way bound on that sublease? A. Yes.
"Q. Mr. Coney, when these leasehold trust certificates were put out, October 1, 1925, you were interested in the security behind them, weren't you? A. Yes.
"Q. What did you regard as the security behind this particular issue of October 1, 1925, which is called in your circular, leasehold trust certificates, Higbee corner, 1920 shares of equitable ownership — what did you regard as the security behind that? A. Why, we regarded the value of the property subject to the sublease over and above the capitalized value of the ground rent as the principal physical equity for the lease.
"Q. So that you regarded as security the buildings, let us say, or the equity in the sublease, is that right? A. Well, the value of such property as was subject to the lease minus the value of the rental, of course."
Such was the testimony of the official of The Union Trust Company whose duty, as he testified, "had to do with the purchase and underwriting of security issues" and with the putting out of land trust certificates and leasehold trust certificates. In view of this testimony, and there is nothing to contradict it, how can it be said that the trustee bank or the cestui que trust could have been misled, or that any wrong had been committed by the parent company in connection with the purchase of those equitable ownership certificates by the plaintiff? The prospectus issued by The Union Trust Company gives full corroboration to the testimony of Mr. Coney. In the prospectus it was stated that The Higbee Realty Company was owned by The Higbee Company, and was the largest sublessee of the leasehold property; and it further stated "the buildings are carried by the company at a depreciation valuation of $2,259,536. The department store is thoroughly modern, and extensive additions and improvements to the property were completed in 1923." It is quite evident that the trustee for the certificate holders not only had knowledge of the fact that the realty company was the actual lessee but, with that knowledge, it looked for its security, not to The Higbee Company, but to The Higbee Realty Company. Mr. Coney was asked:
"Q. Was it, to your knowledge, that The Higbee Company was in no way bound on that sublease? A. Yes."
All of this is easily comprehensible because the testimony shows that in 1925, when this transaction arose, the realty company, in addition to acquiring various subleases, had placed upon the leasehold property improvements valued at more than $1,750,000. In its prospectus, the trustee bank, from information obtained by it, stated that the buildings were carried by the company at a depreciated value of $2,259,536.
In this connection another significant fact appears in this record. On April 16, 1934, counsel for the certificate holders requested the Superintendent of Banks to prosecute the action "as successor to the trustee." On May 21, 1934, the Superintendent of Banks, through his special counsel, L.F. Laylin, declined to bring the action. Subsequently the Superintendent of Banks was made a party defendant, and the Attorney General and Mr. Laylin, a special counsel, filed their answer, in which, while admitting the execution and record of the various instruments effecting title to the property, having no knowledge of the facts contained in the petition relating to corporate control, the superintendent's answer denied all the allegations relating thereto. In view of the testimony of A.C. Coney, he could do no less.
We accept as dispositive of the legal question involved the statement of the trial judge taken from Frederick J. Powell's "Parent and Subsidiary Corporations," which is as follows: "* * * the whole basis of the doctrine of disregarding the corporate entity logically requires that the proof must show not only an excessive control over the subsidiary but the actual exercise of that control in such a manner as to defraud or wrong the complainant."
It has already been stated that a very large portion of this record relates to transactions that occurred more than two years before the certificate holders obtained the certificates from the bank trustee. No effort was made to show that any certificate holder ever heard of such transactions or relied upon them in any way. The controlling date in this controversy is October 1, 1925, when the certificate holders first entered upon the scene and parted with their money. They never had any transactions with or any contact whatever with either The Higbee Company or the realty company. When they obtained their certificates from the trustee bank, since none of them testified, they must have received their information either from the bank or from the prospectus it issued for the purpose of selling the certificates; and since Mr. Coney, vice president of the bank supervising their issue, had notice of the particulars of which he testified, notice to him was notice to the bank; and notice to the bank must be held to have been notice to the cestui que trusts for whom the bank was acting.
"It is well and firmly settled by the whole weight and current of authorities, that notice to an agent is notice to the principal, and that notice to a trustee is notice to the beneficiary * * *." Brannon v. May, 42 Ind. 92, at 101.
"It is a well-settled principle of law * * * that notice to a trustee is notice to his cestui que trust. Beverely v. Brooke, 2 Leigh., [425] 446; French v. Loyal Co., 5 Leigh., [627] 641; LeNeve v. LeNeve, 2 Lead. Cas. Eq., 132, 145. * * * 'Notice to trustees under an ordinary mortgage-deed of a railroad company is notice to the holders of the bonds secured by the mortgage. Such trustees are considered in the light of agents for the negotiating of the loan. They act for those who lend their money on the security of the mortgage. They are charged with the duty of protecting the interests of the bondholders, who are unconnected individuals, having no ready means of acting together except through trustees, whom the law appoints to act for them. Notice to the trustees is held to affect the title in their hands with reference to incumbrances upon the trust-property. Actual notice to the trustees of a prior equitable mortgage is notice of it to the bondholders, who therefore take their bond subject to the legal consequences of the incumbrance.' Jones, Ry. Sec. § 363; Pierce v. Emery, 32 N.H. 484, 521; Miller v. Railroad Co., 36 Vt. 452. " Crumlish v. Railroad Co., 32 W. Va. 244 at 259.
Furthermore, upon the question whether The Higbee Company, under the doctrine laid down by Mr. Powell, wronged these certificate holders, we must judge the transaction by the financial situation which existed in the fall of 1925 and not in the situation which existed in 1932 or at the time of trial. In 1925 real estate and rental values were mounting; and it was upon the then existing values, as testified to by Mr. Coney, that these certificates were issued. Mr. Coney testified positively that he was interested in the security behind the certificates, and that to his knowledge The Higbee Company was in no way bound on that sublease (the sublease to The Higbee Realty Company). This court will take judicial notice, as did the Michigan Supreme Court in the Gledhill case, that seven years later, when the ten-year lease expired, land and rental values and securities generally crashed under the depression. As stated in the Gledhill case, this period "was a time when there was a tremendous inflation in real estate, as evidenced by the many cases that have reached this court. The depression and accompanying deflation in values was not foreseen."
The record discloses that more than $1,750,000 of building improvements were placed upon the leasehold property. It further discloses that The Union Trust Company, after careful inquiry, relied upon the valuation of $2,259,536, which is carried upon the books of the realty company. Since the par value of the leasehold certificates was less than half of the valuation in 1925, how can it be argued that any wrong was done to the claimants at that time?
The record discloses that no certificate holder had any transaction with the parent company and that none placed faith in any representation made either by the subsidiary or the parent company. There is no evidence in this record that any certificate holder was misled. Counsel for the certificate holders admit in their brief that "the Supreme Court of Michigan [in the Gledhill case] does use language which seems at variance with the rule announced by the other courts," etc. But the facts presented by the record in the instant case, especially when viewed in the light of the plaintiffs' conduct and their failure to testify and explain how they were wronged, justify a reversal of the trial court. The Gledhill case is the most recent case upon this subject. Its analysis of the authorities dealing with the subject is comprehensive and its judgment was in accord with that of other courts in similar cases.
For the reasons stated in this opinion, the judgments of the lower courts are reversed and judgment is entered in favor of The Higbee Company.
Judgment reversed.
STEPHENSON, JONES and MATTHIAS, JJ., concur.
To avoid fallacious reasoning, it must be kept in mind that the parent corporation desired for its own use in its business a department store building, which it was already occupying, and employed the wholly owned and controlled subsidiary to get the lease thereon. The subsidiary had no use for the building and did not profit by the getting of the leasehold. All the negotiations and the transaction itself were managed and controlled from beginning to end by the parent. True the subsidiary had been used before in a similar way, but that circumstance cannot alter the case. In such a situation the subsidiary serves, not its own purposes, but those of the parent.
If these facts in evidence are ignored, the result will be a conclusion based on erroneous premises. Of course a corporation is organized to afford limited liability, and its stockholders, natural or artificial, are not, merely as such, liable for its debts. But to regard this principle as controlling the instant case is to disregard the main issue.
What is the law applicable to a case of this character? The rule that ordinarily a parent corporation is not liable for debts contracted in the name of its incorporated subsidiary is subject to exceptions. Where the subsidiary is a scheme or device to enable the parent to avoid its own obligation as distinguished from the bona fide obligations of the subsidiary, the law will pierce the corporate entity of the latter to reach the parent as the real debtor. Fraud of the parent is not an indispensable ingredient of the creditor's right of action but, if existent and relevant, it may be shown as an aid to recovery. If the subsidiary is a mere agent, arm, instrumentality or department of the parent in the transaction in which the debt is incurred, such debt is that of the parent regardless of the existence of fraud. The subsidiary is often spoken of as a "dummy" where it merely serves the parent's purposes and the obligation is, in fact, that of the parent itself.
There is ample authority upon this question. In Parkside Cemetery Assn. v. Cleveland, Bedford Geauga Lake Traction Co., 93 Ohio St. 161, 112 N.E. 596, the judge writing the opinion states at page 173: "Referring to 'dummy' corporations, Thompson, in volume 2 of his work on Corporations, Section 1417, says: 'These corporations are usually termed "dummy" corporations. Concerning them the New York court of appeals has said: "We have of late refused to be always and utterly trammelled by the logic derived from corporate existence where it only serves to distort or hide the truth.' " And on page 174: "* * * It is easy to conceive of a situation in which it would contribute to the public welfare, instead of being a detriment to it, if one corporation should lend assistance, financially and otherwise, to the carrying out of the purposes of another corporation which was duly organized and actually proceeding with the performance of its corporate duties and the exercise of its corporate rights, in the accomplishment of the purposes of its organization. But it is a very different thing when one corporation causes a 'dummy' corporation to be organized, even if all the forms of the law should be fully complied with, if the latter has no real and bona fiide purpose of its own and no intention to attempt to actually carry out the object of its organization as set out in its articles of incorporation."
In the case of Auglaize Box Board Co. v. Hinton, 100 Ohio St. 505, 126 N.E. 881, it is stated in the opinion on page 518: "There is a consistent determination by courts to look through corporate forms, and this disposition is shown with increasing firmness as the interests of justice require.
"In State, ex rel., v. Standard Oil Co., 49 Ohio St. 137 [30 N.E. 279], it was held: 'That a corporation is a legal entity, apart from the natural persons who compose it, is a mere fiction, introduced for convenience in the transaction of its business, and of those who do business with it; but like every other fiction of the law, when urged to an interest and purpose not within its reason and policy, may be disregarded.'
"To the same effect are The Cincinnati Volksblatt Co. v. Hoffmeister, 62 Ohio St. 189 [56 N.E. 1033], First Natl. Bk. of Chicago v. Trebein Co., 59 Ohio St. 316 [52 N.E. 834] and Parkside Cemetery Assn. v. The C., B. G. L. Traction Co., 93 Ohio St. 161, 168."
In the case of Chicago, Milwaukee St. Paul Railway Co. v. Minneapolis Civic Commerce Assn., 247 U.S. 490, 62 L.Ed., 1229, 38 S.Ct., 553, the rule is thus stated at pages 500 and 501: "Much emphasis is laid upon statements made in various decisions of this court that ownership, alone, of capital stock in one corporation by another, does not create an identity of corporate interest between the two companies, or render the stockholding company the owner of the property of the other, or create the relation of principal and agent or representative between the two. * * * While the statements of the law thus relied upon are satisfactory in the connection in which they were used, they have been plainly and repeatedly held not applicable, where stock ownership has been resorted to, not for the purpose of participating in the affairs of the corporation in the normal and usual manner, but for the purpose, as in this case, of controlling a subsidiary company so that it may be used as a mere agency or instrumentality of the owning company or companies. United States v. Lehigh Valley Rd. Co., 220 U.S. 257, 273 [ 55 L.Ed., 458, 31 S.Ct., 387], and United States v. Delaware, Lackawanna Western Rd. Co., 238 U.S. 516 [ 59 L.Ed., 1438, 35 S. Ct., 873]. In such a case the courts will not permit themselves to be blinded or deceived by mere forms of law, but, regardless of fictions, will deal with the substance of the transaction involved as if the corporate agency did not exist and as the justice of the case may require."
Similar language was used in the case of United States v. Reading Co., 253 U.S. 25 at page 62, 64 L.Ed., 760, 40 S.Ct., 425. "It results that it may confidently be stated that the law upon this subject now is, that while the ownership by a railroad company of shares of the capital stock of a mining company does not necessarily create an identity of corporate interest between the two such as to render it unlawful under the commodities clause for the railroad company to transport in interstate commerce the products of such mining company, yet where such ownership of stock is resorted to, not for the purpose of participating in the affairs of the corporation in which it is held in a manner normal and usual with stockholders, but for the purpose of making it a mere agent, or instrumentality or department of another company, the courts will look through the forms to the realities of the relation between the companies as if the corporate agency did not exist and will deal with them as the justice of the case may require. * * *"
The problem was under discussion in the case of Berkey v. Third Avenue Ry. Co., 244 N.Y. 84, at page 94, 155 N.E. 58, 50 A. L. R., 599. "The whole problem of the relation between parent and subsidiary corporations is one that is still enveloped in the mists of metaphor. Metaphors in law are to be narrowly watched, for starting as devices to liberate thought, they end often by enslaving it. We say at times that the corporate entity will be ignored when the parent corporation operates a business through a subsidiary which is characterized as an 'alias' or 'dummy'. All this is well enough if the picturesqueness of the epithets does not lead us to forget that the essential term to be defined is the act of operation. Dominion may be so complete, interference so obstrusive, that by the general rules of agency the parent will be a principal and the subsidiary an agent. Where control is less than this, we are remitted to the tests of honesty and justice (Ballentine, Parent Subsidiary Corporations, 14 California Law Review, 12, 18, 19, 20). The logical consistency of a juridical conception will indeed be sacrificed at times when the sacrifice is essential to the end that some accepted public policy may be defended or upheld. This is so, for illustration, though agency in any proper sense is lacking, where the attempted separation between parent and subsidiary will work a fraud upon the law. ( Chicago Ry. Co. v. Minn. Civic Assn., 247 U.S. 490, United States v. Reading Company, 253 U.S. 26, 61, 63)." (Italics mine.)
In 1 Fletcher Cyclopedia of Corporations, Section 43, page 154, the author and compiler summarizes the law from cited authorities in this language: "A very numerous and growing class of cases wherein the corporate entity is disregarded is that wherein it is so organized and controlled, and its affairs are so conducted, as to make it merely an instrumentality, agency, conduit or adjunct of another corporation."
The indices of parent liability emphasized in these pronouncements are almost universally accepted in the adjudicated cases in other jurisdictions. Platt v. Bradner Co., 131 Wn. 573, 230 P. 633; Bishop v. United States, 16 F.2d 410; Central Republic Trust Bank Co. v. Caldwell, 58 F.2d 721-735; Oriental Investment Co. v. Barclay, 25 Tex. Civ. App., 543, 64 S.W. 80, 86; Minifie v. Rawley, 187 Cal. 481, 487; Wenban-Estate Inc. v. Hewlett and Mills, 193 Cal. 675, 695; Holbrook Corp. v. Perkins, 147 F., 166, 167, 169; Foard v. State of Maryland, 219 F., 827, 829; Portsmouth Cotton Oil Refining Corp. v. Fourth National Bank, 280 F., 879, 881, 882; Dillard Coffin Co. v. Richmond Cotton Oil Co., 140 Tenn. 290, 292, 204 S.W. 758; Mirabito v. San Francisco, 8 Cal.App.2d 54, 47 P.2d 530.
This case has two aspects, one narrow, the other broad. In considering the narrow aspect, it is only necessary to recite certain undisputed facts. The long-term lease in which the subsidiary was named as lessee expires in 2007. All officers and directors of the subsidiary were officers and directors of the parent. The president and secretary of the parent company occupied the same positions, relatively, with the subsidiary company. At the same time that this long-term lease was entered into, the parent caused a lease to be executed and delivered to it from the subsidiary covering the same premises and containing the same provisions as to rent and otherwise except it ran for only ten years. The president and secretary signed this ten-year lease on behalf of each company; thus these two officers acting at the same time for both companies, in effect, made an agreement with themselves. There were no adverse contracting parties as to this ten-year lease, and the domination and control of the parent made it within its power to abrogate the ten-year lease at its pleasure. The question is: May the parent be held for rent on the long-term lease which it has caused to be taken in the name of the subsidiary?
The problem is important because, if the plan affords immunity, it opens up a new way for a parent company to occupy and enjoy premises under a lease which it can control without being liable for the rent except to a limited extent. The obvious advantage to the parent is that it "could, whenever its convenience should require, claim the leasehold as its own, or push it off on its subsidiary." It would seem that the court should hesitate to sanction such a device, and that it should be held invalid as a shield for debt, on the ground of public policy. Obviously, a person cannot contract with himself, and by parity of reasoning two persons who are president and secretary of parent and subsidiary cannot act for both at the same time in making a contract. The ten-year lease should be disregarded in law and the long-term lease regarded as made in the name of the subsidiary for the benefit of parent as the undisclosed principal.
However that may be, such is the narrower aspect of the matter at hand. There is a broader inquiry to be made. Was there a question of fact for the determination of the trial court? If so, final judgment for plaintiff in error could not be entered here. All the facts are not recited in the majority opinion and it is impossible to cover them fully in an opinion of reasonable length. No attempt to do so will be made. We shall merely endeavor to recite facts proven which were favorable to plaintiff below and required submission of the case to the judge, the trier of the questions of fact, since a jury had been waived.
The action was for rent and did not sound in tort. An examination of the petition shows plaintiff's claim to be that the obligation for rent under the long-term lease was in fact the obligation of the parent. The plaintiff's contentions are (1) that the defendant is liable regardless of fraud, wrong or injustice because the subsidiary is a "dummy" corporation and a mere instrumentality, arm, agency, or department of the defendant; (2) that the defendant so used, operated and manipulated the subsidiary as to perpetrate a fraud, wrong, or injustice upon the plaintiff; and (3) that the defendant is the real lessee, has assumed the obligations of the lease, is liable thereon and is estopped to deny its liability.
There is no finding of facts in the trial court but merely a judgment for rent. If the judgment is correct upon any theory, or a question of fact was presented, it must stand.
Evidence was adduced to show that the subsidiary had no business after the long-term lease was executed, except to hold that lease, and from that day had no employees or separate place of business, and its own capital was wholly inadequate to warrant it in assuming so great an obligation for rent; on January 31, 1923, the defendant completely discarded the subsidiary and transferred to itself on its books the assets and liabilities theretofore held or owing in the name of the subsidiary. The only asset was the leasehold and the only obligation was for rent. Thereafter in 1923 the defendant, in a public circular for the sale of $1,500,000 of its preferred stock, declared itself the owner of long-term leaseholds and a building valued on its books at $2,102,549.54. From January 31, 1923, the defendant ignored the existence of the subsidiary and paid rent, insurance, taxes, and other expenses incident to the long-term lease direct, and kept the books. During this time the subsidiary kept no books and ceased to function in the transaction of business.
The ten-year lease was never recorded and the trial court might properly hold that it had been concealed. When the leasehold certificates were put out by the Union Trust Company, as trustee, in 1925, the prospectus did not mention the ten-year lease but used language which gave rise to the inference and impression that The Higbee Company's name and credit were behind them, that rentals remained fixed until the year 2007, that the business was old and established and that the buildings were carried by The Higbee Company at a depreciated value of $2,259,536. It is urged that the trustee that put out these certificates knew of the ten-year lease and that this was notice to those who bought the certificates. If the certificate buyers had known that the defendant had a lease with only about seven years more to run and were not liable for the rents beyond that time, they would not have bought these certificates. It is a strange doctrine to say that the trustee, by concealing this vital fact, in the sale, bound the buyer. The deduction that notice to the trustee was notice to the purchaser is based on the false assumption that the trustee was acting for the purchaser instead of dealing with him at arm's length in selling the security. A trustee may be an agent of the beneficiary if the terms of the trust make him such. In this instance, there was no such agency in the sale, but merely the relation of vendor and vendee.
In September, 1931, the premises were abondoned and the department store removed to the Public Square. Entries were made on the books of the defendant transferring assets and liabilities back to the subsidiary. On June 1, 1932, the defendant ceased to pay rent, severed all connection with the subsidiary, caused its name to be changed to 1277 Euclid Realty Company, and cast it adrift. What books it had were finally found in a garage. Here is where the wrong was consummated. A loophole had been left of which advantage was taken. By abandoning the premises for other quarters, the only means the subsidiary had of paying rentals was taken away. The business had been prosperous up to that time and no good reason seems to have existed for moving except to exploit another site. The steps were taken deliberately with knowledge that the leasehold certificate holders would be left high and dry.
There is other evidence to which attention could be called, but enough has been stated to show that a question of fact was presented. Of course there was contradictory evidence or evidence from which conflicting inferences could arise, and there was evidence adduced in rebuttal to explain damaging evidence offered by plaintiff. If the trial court believed plaintiff's evidence and put the construction on it most favorable to plaintiff, there was concealment and wrong and fraud. There was a mixed question of law and fact for the determination of the lower court. The Court of Appeals held the finding and judgment of the lower court were not against the weight of the evidence and there is no error apparent on the face of the record.
The majority opinion cites the case of Gledhill v. Fisher Co., 272 Mich. 353, 262 N.W. 371. In that case the elements which we have here were lacking, as will be shown by the statement on page 64: "There is no proof in this case that the defendant (subsidiary) corporation was in any way the agent or tool of the corporation which controlled its capital stock, or that it was not a corporation organized in good faith to pay for, acquire and hold the property purchased."
A careful analysis of all the cases cited by defendant will disclose, it is believed, that the law is as has heretofore been stated. In the last analysis, the conclusions reached must depend upon the fact in the particular case. It would be difficult to imagine a case in which the evidence would be more favorable to the right of recovery than that adduced by plaintiff. The parent corporation did practically all it could have done to make the obligation for rent its own except to take the long-term lease in its own name. The trial judge was justified, if he saw fit, in finding that the defendant practiced fraudulent concealment of the ten-year lease, held itself out as being behind the long-term lease, as principal, with its credit and responsibility absolutely and obtrusively dominating the subsidiary, and that the obligation for rent was that of the defendant.
In my opinion the judgment should be affirmed.
No question of law is involved, and the questions of fact were similarly determined by both the Court of Common Pleas and the Court of Appeals to the effect that the subsidiary corporation was the plainest sort of mere fictional device resorted to for the single purpose of enabling the parent company to escape a liability represented to be its own.
This was an action against The Higbee Company for rent in which the claimants were successful in both the Court of Common Pleas and Court of Appeals. The defense was unsuccessfully interposed that the obligation was solely that of The Higbee Realty Company, a subsidiary corporation of distinct and independent existence.
It is well established by the authorities that the legal fiction of distinct corporate existence will be disregarded (1) when it is necessary to circumvent fraud or defeat injustice; (2) where a corporation is so organized and controlled, and its affairs are so conducted, as to make it merely an instrumentality or adjunct of another corporation.
Obviously, determination of the question is controlled by the facts of the particular case. Centmont Corp. v. Marsch (C.C.A. 1), 68 F.2d 460, 463. (Certiorari denied, 291 U.S. 680, 78 L.Ed., 1068, 54 S.Ct., 530.)
The instant case presents no exception to the rule. A purely factual issue was before the lower courts. That issue having been decided adversely to plaintiff in error and upon a plenitude of competent evidence, there is no tenable basis for a reversal by this court.
In consequence, I favor an affirmance of the judgment of the Court of Appeals. I also approve the dissenting opinion by Williams, J., where the subject is treated in greater detail.