LERNER v. LERNER CORP. No. 938, Sept. Term, 1999.
750 A.2d 709 (2000)
131 Md. App. 32
Lawrence E. LERNER v. LERNER CORPORATION, et al.
Court of Special Appeals of Maryland.
May 1, 2000.
Leonard N. Bebchick, Washington, DC (Douglas M. Bregman, Mark A. Gilday and Bregman, Berbert & Schwartz, Bethesda, on the brief), for Appellant.
Albert D. Brault (James M. Brault and Brault, Graham, Scott & Brault, LLC, Rockville, James H. Hulme, Stephanie A. Rigaux and Arent, Fox, Kitner, Plotkin & Kahn, PLLC, Washington, DC, on the brief), for Appellees.
Argued before MURPHY, C.J., and WENNER and EYLER, JJ.
The issues presented by this case arise out of a multi-year dispute between Lawrence E. Lerner, appellant (Lawrence), and Theodore N. Lerner, appellee (Theodore), no strangers to the litigation process. Lawrence and Theodore are brothers who, for many years, were jointly engaged in the business of buying, selling, developing, and managing real estate. Lerner Corporation, another appellee (Lerner Corporation or the Corporation), a subchapter S corporation incorporated under the laws of the State of Maryland, was the primary business entity through which the brothers operated.
Lerner Corporation, a closely held corporation but not a "close corporation" within the meaning of Maryland corporation law, was organized in 1965. It was authorized to issue ninety-five shares of no-par common stock. Theodore acquired seventy shares, and Lawrence acquired twenty-five shares. Theodore was president and one of three directors. Prior to September 1983, Lawrence was secretary and a director.
The brothers' relationship deteriorated, and in September 1983, Theodore caused Lawrence to be removed as an officer and director. Lawrence sued Theodore, Theodore undertook to "freeze-out" Lawrence as a stockholder, and Lawrence brought an action to enjoin the freeze-out. The Court of Appeals affirmed the trial court's entry of a preliminary injunction. See Lerner v. Lerner,
Disputes arose with respect to implementation of the Settlement Agreement. See, e.g., Lerner v. Lerner, 101 Md.App. 728, No. 1914, September Term 1993 (Maryland Court of Special Appeals filed September 30, 1994)(unreported), and Lerner v. Lerner Corp.,
Appellant directs us to two paragraphs in the Settlement Agreement as relevant to the issues presented. Paragraph 5 provides: "LEL [Lawrence] shall continue as a shareholder of Lerner Corp. which itself
Lerner Corporation sold stock in late 1995, but Lawrence elected not to purchase additional shares. All the shares were purchased by Theodore, increasing Theodore's interest to 89.9% and decreasing Lawrence's interest to 10.1%. In May 1998, Lerner Corporation again sold stock, at which time Lawrence purchased fourteen shares to maintain his proportionate interest.
Subsequent to that sale, Lerner Corporation gave Lawrence notice of a special shareholders meeting to be held on August 24, 1998. The purpose of the meeting was to consider a proposed amendment to the Corporation's charter. The effect of the amendment was to reclassify and convert each of the Corporation's common shares into 1/68th of a share, a "reverse stock split," which would have the effect of reducing Lawrence's interest to less than one share. The amendment provided that, in lieu of the issuance of fractional shares, Lawrence would be paid the fair value of his stock. This would eliminate Lawrence as a shareholder and convert his interest to cash. The notice was issued pursuant to authorization by the board of directors at a meeting held on August 11, 1998.
On August 21, 1998, Lawrence filed suit in the Circuit Court for Montgomery County, seeking a declaratory judgment, an injunction to prevent the reverse stock split, or, if not enjoined, rescission. The court issued a temporary restraining order to prevent adoption of the amendment, conditioned on posting a $100,000 bond. Lawrence failed to post adequate security, and the amendment was adopted on August 26, 1998. On January 4 through 6, 1999, the case proceeded to a non-jury trial on appellant's claim for rescission and declaratory relief. On June 11, 1999, the circuit court rendered a decision, ruling in favor of appellees.
At trial, Lawrence argued that the reverse stock split was not permissible because Lerner Corporation failed to demonstrate a legitimate business reason and because it violated the terms of the Settlement Agreement. Appellees responded that there was a legitimate business reason for the reverse stock split, there was no fraud or unfairness, and it was not precluded by the Settlement Agreement.
The circuit court ruled that the Settlement Agreement did not address the issue of duration. The court thus implied a reasonable time for its duration, finding that the approximate ten years, ten months time that had elapsed from the inception of the Settlement Agreement to the reverse stock split was a reasonable time. Second, the circuit court stated that the Settlement Agreement did not contemplate the "continued interference" by Lawrence that was found to exist. Third, the circuit court discussed the legal standard to be applied to judicial review of the reverse stock split and stated that, while the exact standard was unclear, it was either fraud, fairness, or business purpose. The court, after concluding there was no evidence to show fraud or unfairness, found there was a business purpose based on (1) the history of contentious litigation, (2) the likelihood that it would continue, (3) the need to maintain the subchapter S status of the Corporation that had been threatened by Lawrence's efforts, and (4) the need to maintain adequate cash reserves. Consequently, the court denied rescission and held that the charter amendment was not in violation of the Settlement Agreement and that appellees had not breached their legal duties.
Appellant frames the issues as follows:
1. Did the Circuit Court err in terminating the 1987 Settlement Agreement among appellant Lawrence
2. Did the Circuit Court err in holding that Lawrence's actions lawfully justified and supported the entry of a judicial decree effectively terminating the 1987 Settlement Agreement?
3. Did the Circuit Court err in concluding that the Corporation lawfully had adopted and could implement a 1998 reverse stock split designed to wholly eliminate Lawrence's position as a minority stockholder?
Motion to Take Judicial Notice
Appellant filed in this Court a motion to take judicial notice, which we shall address prior to addressing the issues set forth above. First, appellant asks this Court to take judicial notice of (1) an order awarding supplemental judgment dated October 19, 1998, and (2) a notice of judgment, entered October 27, 1998, both by the Circuit Court for Montgomery County in Lerner, et al. v. Lerner Corporation, et al., No. 77954 Civil. The orders relate to proceedings on remand as the result of this Court's unreported opinion in Lerner v. Lerner Corporation, No. 1914, September Term 1994 (filed September 30, 1994). Appellant suggests that notice is required to provide this Court with a full chronology of the dispute among the parties. Second, appellant asks us to take judicial notice of Lerner Corporation's offer to sell stock dated May 18, 1998. This document was not admitted into evidence.
Maryland Rule 5-201 provides that a court may take judicial notice of adjudicative facts. The rule further provides that "[j]udicial notice may be taken at any stage of the proceedings." Md. Rule 5-201(f). As such, an appellate court may take judicial notice. See generally Joseph F. Murphy, Maryland Evidence Handbook § 1000, at 409 (3rd ed.1999) ("an appellate court may take judicial notice of a fact not judicially noted by the trial judge"); 5 Lynn McLain, Maryland Evidence § 201.1 n.6, at 90 (1987 & Supp.1995) (citing cases in which Maryland appellate courts have taken judicial notice).
The doctrine of judicial notice substitutes for formal proof of a fact "when formal proof is clearly unnecessary to enhance the accuracy of the fact-finding process." Smith v. Hearst Corp.,
Consequently, we take judicial notice of the order and notice of judgment entered by the Circuit Court for Montgomery County in Lerner, et al. v. Lerner Corp., No. 77954 Civil. We decline, however, to take judicial notice of Lerner Corporation's offer to sell stock in that it is not a part of the record, and its accuracy is subject to reasonable dispute and cannot be as readily and accurately ascertained.
Appellant contends that the circuit court erred when it imposed an "eleven-year
Appellees argue that the Agreement is silent as to duration and such a contract not otherwise terminable at will is enforceable for a reasonable time, and what constitutes a reasonable time is a fact question. Additionally, appellees assert that the restriction in the Settlement Agreement constitutes an unreasonable restraint on alienation, and because appellant is seeking rescission, equity can deny enforcement of a contract when it is unreasonable and enforcement would work a hardship. Appellant responds that a court's ability to impose a reasonable term when a contract is silent is limited to the question of when a party is to render performance. The question, in that situation, is whether the other party is excused from performance or entitled to relief for nonperformance. Appellant argues that the doctrine does not apply because appellant has performed his obligations.
We agree with appellees. Our discussion in Kiley v. First National Bank of Maryland,
102 Md.App. at 335-36, 649 A.2d 1145; see also Goldman, Skeen & Wadler v. Cooper, Beckman & Tuerk, L.L.P.,
The Settlement Agreement at issue did not address duration. Consequently, as a matter of law, it was effective for a reasonable time. See Kiley, 102 Md.App. at 336, 649 A.2d 1145; see also 1 Richard A. Lord, Williston on Contracts § 4:19, at 429-48 (4th ed.1990) (hereinafter "Williston").
Appellant has referred us to cases in other jurisdictions that are either factually inapposite or of little import here. We briefly distinguish those cases. In Galler v. Galler,
In Glazer v. Glazer,
In Wasserman v. Rosengarden,
Similarly, Compton v. Paul K. Harding Realty Co.,
Appellant further contends that the term limit was imposed in error because the trial court made no finding of ambiguity and considered no evidence regarding the duration of the agreement. First, we note that appellant did testify regarding his understanding of the duration of the agreement. Contrary to appellant's implicit assertion, the trial court was not required to accept appellant's testimony regarding his subjective understanding of the agreement's duration.
Second, and more important, in the absence of an express term limit, a court must first interpret the agreement to determine if the agreement unambiguously omitted the term or if a term was present but ambiguous. We have already determined the court was correct in determining the Settlement Agreement fell into the
The Restatement (Second) of Contracts provides that, when the parties to a contract have not agreed with respect to a term that is essential to a determination of their rights and duties, a term that is reasonable under the circumstances may be supplied by the court. See Restatement (Second) of Contracts § 204 (1981). The commentary to this provision notes that, while interpretation may be necessary to determine that the parties have not agreed with respect to a particular term, the supplying of an omitted term is not technically within the Restatement's definition of interpretation, which consists only of ascertaining the meaning of a promise or agreement, and not whether omitted terms exist or whether terms should be supplied. See Restatement (Second) of Contracts § 204 comment c (1981)(referring to the definition of interpretation in Restatement (Second) of Contracts § 200 (1981)). The treatise Corbin on Contracts similarly provides that "a situation in which construction, rather than interpretation, occurs is a court's action in filling a gap in the terms of a contract." Margaret N. Kniffin, 5 Corbin on Contracts § 24.3, at 9 (Rev. ed.1998) (hereinafter "Corbin").
When an agreement is silent as to duration, a reasonable duration will be implied by the court. In determining what constitutes a reasonable duration, reference should be made to the subject matter of the agreement. See Goldman, Skeen, 122 Md.App. at 47,
We conclude from the above discussion that there is a conceptual difference— more than one of semantics—between the process for construing an ambiguous agreement to determine the intention of the parties and determining a reasonable duration for an agreement when the parties failed to provide for its duration. In the latter case, attempting to determine the intention of the parties and to give such intention efficacy is relevant, but the court may consider all relevant circumstances—including circumstances as of the time of entering into the agreement, events thereafter, and considerations of policy and fairness.
In the instant case, the circuit court considered the totality of the circumstances and concluded as a matter of fact that the period of time that had elapsed before the reverse stock split, just short of eleven years, was a reasonable period of time. We hold that the court's determination was not clearly erroneous.
2. Breach of Settlement Agreement
Appellant reads the circuit court opinion as holding in the alternative that the Settlement Agreement was properly terminated because Lawrence committed a material breach of the Agreement by virtue of his "continued interference." Appellant argues that pursuit of litigation by Lawrence was not a breach of the Settlement Agreement
Appellant contends that, even if not barred by the Settlement Agreement, the reverse stock split was unlawful. Appellant assumes that the appropriate test to be applied is whether there was a proper business purpose for the reverse stock split. Appellant argues that there was no valid business purpose because the purpose was to end any further efforts by Lawrence to enforce his contractual rights and to eliminate him as a shareholder.
The reasons for the reverse stock split were set forth in the minutes of the board of directors. The minutes recited that the Settlement Agreement limited Lerner Corporation's ability to retain profits for working capital needs because profits had to be distributed on a current basis. The result was that stock had to be sold to repay loans or finance new purchases and to provide working capital. The minutes also indicated that Lawrence acted to frustrate stock sales and that eliminating him as a stockholder would remove a major obstacle to raising additional capital.
Appellant argues that after the stock offering in May 1998, Lerner Corporation was flush with cash, and the facts did not support the board resolution. Appellant recognizes that the circuit court found that the freeze-out was justified (1) to enable Lerner Corporation to maintain cash reserves, (2) to avoid litigation costs, (3) because dissension was impairing the Corporation's ability to conduct business, and (4) to enable Lerner Corporation to avoid the loss of subchapter S status. Appellant asserts that there is nothing in the record to support those findings.
a. Exclusivity of Appraisal Remedy
In response, appellees first assert that the Maryland appraisal statute, Md.Code, Corps. & Ass'ns §§ 3-202 to 3-211 (1999), provides the exclusive remedy for a minority shareholder and that traditional forms of equitable relief are not available as a matter of law.
We disagree that the Maryland appraisal statute is the exclusive remedy for a minority shareholder. Nothing in either the existing statute or its predecessors indicates that the remedy of an appraisal proceeding was intended to be exclusive. See Twenty Seven Trust v. Realty Growth Investors,
It is clear that a court may grant injunctive relief under appropriate circumstances. Lerner v. Lerner,
b. Propriety of Reverse Stock Split
We turn then to the propriety of the reverse stock split. As previously mentioned, appellant contends that the reverse stock split was unlawful. Appellees argue
Specifically, appellees point to the following evidence: (1) The board minutes recited that the action was to eliminate dissension among shareholders that had embroiled the corporation in litigation for more than twelve years at a cost of more than $2,000,000 and had diverted executive officers from managing the corporation; (2) The Corporation's counsel concluded that there was a pattern of irreconcilable family conflict; (3) Lawrence had testified at a deposition that he hated Theodore; (4) The Corporation spent over $2,000,000 in legal fees in litigation with Lawrence; (5) The litigation took the time and effort of the employees of the Corporation; (6) Evidence that Lawrence made false statements about the Corporation; (7) Testimony by the former chief financial officer of the Corporation that, during his ten years as such, he spent a substantial portion of his daily time devoted to litigation with Lawrence and his testimony that document discovery during 1999 consumed over 500 hours.
Again, we agree with appellees. A reverse stock split, or split-down, occurs when a number of shares are combined to form one share.
Furthermore, the use of a reverse stock split and elimination of fractional shares for the purpose of eliminating minority stockholders, if not within one of the "limited circumstances" discussed above, see Walter J. Schloss Assoc., 73 Md.App. at 743,
Notwithstanding, at least one state limits this statutory right. The California Corporations Code permits a corporation to pay cash for fractional shares but adds a proviso that a corporation may not do so if such action would result in the cancellation of more than ten percent of the outstanding shares of any class of stock. See Cal. Corp.Code § 407 (West 1988). A treatise addressing the rights of minority shareholders, F. Hodge O'Neal & Robert B. Thompson, O'Neal's Oppression of Minority Shareholders § 5:11 (2d ed.1997), after
Notwithstanding the permissibility of a reverse stock split in Maryland as well as elsewhere, we must consider the duties of a majority stockholder to a minority stockholder in a closely held corporation and the appropriate standard applicable to such a transaction that results in the elimination of a minority stockholder. In the earlier Lerner case, the Maryland Court of Appeals expressly declined to answer that question.
It is well settled in Maryland that minority shareholders are entitled to protection against the fraudulent or illegal action of the majority. See Mottu v. Primrose, 23 Md. 482, 501 (1865). When a majority stockholder abuses its power, a minority stockholder is entitled to appropriate relief. See Twenty Seven Trust, 533 F.Supp. at 1034; Baker v. Standard Lime & Stone Co.,
In Lerner v. Lerner,
The weight of authority indicates that the use of a reverse split and elimination of fractional shares for the purpose of eliminating minority stockholders may raise fairness, business purpose, or other similar issues justifying judicial intervention. See, e.g., Teschner v. Chicago Title & Trust Co.,
The article Kaplan & Young, Corporate "Eminent Domain": Stock Redemption and Reverse Stock Splits, 57 UMKC L.Rev. 67 (1988), discusses the reverse stock split procedure in detail, and notes that: "No jurisdiction has any per se rule against squeeze-outs by means of reverse stock splits or otherwise, but majority shareholders must meet certain standards of fairness in their treatment of the minority." 57 UMKC L.Rev. at 74 (citing Lerner v. Lerner,
Some jurisdictions incorporate business purpose into the analysis. In particular, New York and Massachusetts appear to have adopted this approach. See, e.g., Schwartz v. Marien,
At least one jurisdiction has followed what could be termed the "reasonable expectations" approach. See generally Robert Savage McLean, Minority Shareholders' Rights in the Close Corporation under the New North Carolina Business Corporations Act, 68 N.C. L.Rev. 1109, 1113-16 (1990) (discussing the reasonable expectation approach utilized by North Carolina courts). In Meiselman v. Meiselman,
Additionally, Professor O'Neal has called for legislation ordering courts to protect the reasonable expectations of a close corporation shareholder. See F. Hodge O'Neal, Close Corporations: Existing Legislation and Recommended Reform, 33 Bus. Law. 873, 885 (1978). But see Ralph A. Peeples, The Use and Misuse of the Business Judgement Rule in the Close Corporation, 60 Notre Dame L.Rev. 456, 505 (1985) (noting that no court has adopted the reasonable expectations test
While Massachusetts and New York consider business purpose in their analysis of fiduciary duties in the close corporation context, and North Carolina considers "reasonable expectations" of the dissatisfied shareholder, Delaware has adopted an entire fairness test. In Weinberger v. UOP, Inc.,
While Weinberger dealt with a public company, the Supreme Court of Delaware in Nixon v. Blackwell,
In our view, the fairness rule is the appropriate test under these circumstances, i.e., a reverse stock split in a closely held corporation with the effect of eliminating a minority stockholder, because it permits intervention on the facts of any given case when intervention is justified. As compared to business purpose, courts have a long history of assessing concepts of fairness. Moreover, in most cases, a plausible business purpose would not be difficult to demonstrate. See Ralph A. Peeples, The Use and Misuse of the Business Judgment Rule in the Close Corporation, 60 Notre Dame L.Rev. 456, 499 (1985)(citing F. Hodge O'Neal, O'Neal's Oppression of Minority Shareholders § 3.05 (1975)). As a result, the fairness rule, in many if not most instances, will provide courts with greater ability to fashion appropriate relief. Hanks' discussion in his treatise on Maryland Corporation law cogently addresses the appropriateness of the fairness test with respect to the freeze-out of a minority stockholder:
There is no requirement of a business purpose for a freeze-out merger for the same reasons that a business purpose is not necessary for a freeze-out by means
Hanks, supra, § 7.20, 264-66 (Supp.1996) (footnotes omitted).
We note that in the circumstances before us regardless of whether we apply the test of business purpose or fairness, the evidence was sufficient to support the circuit court's findings. The evidence outlined above leads to a conclusion that there were reasons to effect the reverse stock split other than the desire, in and of itself, to oust a minority shareholder.
c. Voting Requirements
Appellees argue that the reverse stock split was valid without Lawrence's consent because it was approved by the shareholder vote required by law. Section 2-604(e) provides that an amendment to the charter shall be approved by the affirmative vote of 2/3 of all votes entitled to be cast on the matter. Appellees assert that, as part of the settlement, Lawrence could have caused the corporation to elect Maryland close corporation status or to amend its charter to require unanimity for a reverse stock split. Having failed to do so, section 2-604(e) controls and a 2/3 vote is sufficient. We do not address this issue in light of our disposition of appellant's issues.
Appellant, at trial, sought to rescind the reverse stock split, a form of equitable relief entitling the circuit court to consider principles of fairness and equity. Appellant did not seek monetary relief in the form of damages or any other monetary relief outside of the statutory appraisal process. It appears that appellant is now limited to the appraisal process.
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