The Telegraph v. Loetscher

Ladd, J.

In April, 1891, A. Ferris Smith was owner of a certain patent right on a mortising machine, and of machinery to manufacture the device. He suggested to citizens of Dubuque the propriety of organizing a company which should purchase these. Thereupon the defendant and two others were appointed by a local board of trade as a committee to go to Chicago, Ill., to examine the mortising machine. Howie and the defendant did so, and seem to have reported that, though not perfect, the invention was valuable. About 'a week later Smith returned to Dubuque, and, after some parley, induced the defendant, who was superintendent of the Farley & Loetscher Manufacturing Company, to permit him to have the mortising machine set up in its factory for exhibition. He also arranged with Loetscher to help him promote a company for the purchase of the patent and machinery to manufacture the mortising machine. The terms of the agreement are not open to serious doubt, though controverted in argument; the defendant insisting that he was merely to aid in organization of the company, and not in the sale of the patents and machine to it after being organized. The distinction is due to his construction of the contract. The object in organizing the company was that it should acquire the property of Sinith, and this was perfectly understood by Loetscher. In a -deposition taken in 1896 he testified that Smith proposed that “ he would have two hundred shares, or $20,000, issued to me, if I would help him pro *385 mote tbis company. Told bim I didn’t want any stock, because, if I should get any, I would subscribe for a little myself. Finally told bim if be would give me $10,000 casb, or its equivalent, I would take bold of tbe matter and help bim pusb it tbrougb. He claimed tbe company should be organized for $200,000, and be should get 95-200 of tbe stock and $50,000 casb for bis patent, and be worked along that basis for about a month. Finally Dr. Staples and other prominent men took bold of it, and commenced to deal with Smith. They objected to tbe amount of cash to be paid to Smith. Smith said to me.: ‘ I’ll have to reduce my cash bonus, and I want you to reduce yours.’ He said be would take $25,000 in casb, provided I would be willing to take $5,000. He made an agreement to pay me $5,000 casb if tbe company was organized; otherwise I was not to have anything. I subscribed for the stock myself then, and others subscribed tbrougb my influence. That is about tbe way tire company was started.”

1. Corporations: promoters. Tbe very purpose of organizing tbe company was to buy of Smith and to manufacture tbe mortising machines. Tbe subscription paper tbe defendant helped circulate recited that “ the assets of the company and the. franchise are the deeds of patent of the Hnited States,” etc. Manifestly Loetscber was to do precisely what be testified —■ “ take bold and help bim pusb it tbrougb.” To accomplish tbis, it was not only necessary to organize the company, but to have it purchase tbe patent and machinery. Tbis was Smith’s ultimate object, as defendant knew; and it was to bring this about, as well as to secure subscribers for stock, that tbe agreement bound bim to help Smith accomplish. This view is further confirmed by the fact that no settlement was made until after the entire deal was consummated. Defendant denies that he was to do more than help organize tbe company, and insists that he demanded payment as soon as this was done; but this is merely his construction of what was said between bim and Smith, and *386 is not borne out by bis testimony of tbe conversation bad between them, and is inconsistent with tbe circumstances .surrounding tbe transaction. Tbe defendant exhibited tbe machine at tbe factory to prospective subscribers, and requested acquaintances to take stock in tbe company. As a machinist and inventor, bis neighbors reposed confidence in him, and were unaware that be was in tbe secret employ of Smith. Stock to tbe amount of $75,000 was subscribed, and on tbe 25th day of May a preliminary organization was perfected, with defendant as one of tbe signers of tbe articles of incorporation and one of tbe directors, and afterwards as vice-president. As such officer be was present at nearly all tbe meetings of the board of directors, and advised and participated in tbe purchase of patents and machinery from Smith for which $6,000 was paid in cash, and 95-200 of tbe stock issued; and be was also to have $14,000 out of tbe first net earnings of tbe company. It is not material that Smith was paid less than originally contemplated in bis contract with tbe defendant. Tbe important facts are that tbe •defendant, ydrile acting as promoter in organizing tbe corporation for tbe express purpose of buying these patents and machinery, and acting as a director of tbe company after it was organized, was in tbe secret employment of Smith, from whom tbe purchase was made. It is idle to talk about compensation for services in such a case. Tbe payment is for tbe influence tbe party may exert with those who trust him, and too often, though not in this instance, amounts to a betrayal of confidence for money. That bis engagement was such as to constitute him a promoter, tbe record leaves no doubt. A promoter has been defined to be one who brings about tbe incorporation and organization of a company ; who brings together tbe persons who become interested in tbe enterprise; who aids in procuring subscriptions, and sets in motion the machinery which leads to tbe formation of the corporation itself. 2 Cook on Stockholders, section 651. It is said to be a business, not a legal, term, “usually summing *387 up in a single word a number of business operations, familiar to tbe commercial world, by wbicb a company is generally brought into existence.” Bowen, J., in Whaley Bridge Calico Printing Co. v. Green, 28 Wkly. Rep. (Q. B. Div., 1880) 351.

2. Secret profits: accounting. That such persons occupy a fiduciary relation toward tbe corporation they Seek to promote is settled by tbe authorities. See 23 Am. & Eng. Enc. of Law, 234. In Bosher v. Richmond, etc., Land Co., 89 Va. 455 (16 S. E. 360, 37 A. M. St. Rep. 879), the court-said :

A promoter is a person wbo brings about the incorporation and organization of a corporation. He brings together tbe persons wbo become interested in tbe enterprise, aids in procuring subscriptions, and,sets in motion tbe machinery wbicb leads to tbe formation itself. Every person, acting by whatever name in tbe forming and establishing of a company at any period prior to tbe company, is considered, in law, as occupying a fiduciary relation towards tbe corporation. He is an agent of tbe corporation, and is subject to tbe disabilities of such. He is guilty of a breach of trust if be sells property to tbe corporation, purchased after be began promoting, without informing the company that the property belongs to him, or be may commit a breach of trust by accepting a bonus or commission from a person wbo sells property to that corporation.

Tbe promoter is in tbe situation akin to that of. agent or trustee of tbe company, and bis dealings with it must be open and fair. Says Moráwetz in bis work on Corporation, section 546:

If persons start a company, and induce others to subscribe for shares, for tbe purpose of selling property to the company when organized, they must faithfully disclose all facts relating to tbe property which would influence those wbo form tbe company in deciding upon tbe judiciousness of tbe purchase. If the'promoters are guilty of any misrepresentation of facts or suppression of the truth in relation to tbe character and value of the property, or their personal in *388 terest in the proposed sale, the company will be entitled to set aside tbe transaction, or recover any compensation for any loss which, it has suffered.

The principle is not different from that involved when several persons are engaged in a joint enterprise for their mutual benefit. Each has the right to demand and expect from his associates good faith in all that relates to their common interests, and no one will be permitted to take to himself a secret and separate advantage to the prejudice of the others. Getty v. Devlin, 54 N. Y. 403. The principle was forcibly expressed by the Lord Chancellor in Erlanger v. New Sombrero Phosphate Co., L. R., 3 App. Cases, 1218:

They stand, in my opinion, undoubtedly, in a fiduciary position. They have in their hands the creation and molding of the company. They have the power of defining how and when and in what shape and under what supervision it shall start into existence and begin to act as a trading corporation. If they are doing all this in order that the company may, as soon as it starts into life, become, through its managing directors, the purchasers of the property of themselves (the promoters), it is, in my opinion, incumbent upon the promoters to take care that in forming the company they provide it Avith an executive (that is to say, with a board of directors) who shall both be aware that the property which they are asked to buy is the property of the promoters, and who shall be competent and impartial judges as to whether the purchase ought or ought not to be made. I do not say that the owner of property may not promote and form a joint-stock company, and then sell his property to it; but I do say that if he does he is bound to take care that he sells it to the company through the medium of a board of directors who can and do exercise an independent and intelligent, judgment on the transaction, and Avho are not left under the belief that the property belongs, not to the promoter, but to some other person.

In re North Australian Co. (Archer’s Case) L. R. 1892, Ch. Div. vol. 1, page 322, Archer, being requested by the promoter to become a director, agreed' to do so on the *389 former’s promise that, if be should at any time wish to part with bis shares, be would purchase them at the price Archer paid. After acting some time as director, Archer resigned, and the promoter took his shares at the price agreed.' At that time the Shares had no market value. The liquidators of the company asked that Archer be required to pay in the amount hé had received from the promoter, with interest; and it was held that having regard to his position as director of, and therefore agent for, the company, whatever benefit or profit accrued to him under the indemnity constituted by his secret agreement with the promoter belonged to the company, and that the retention by him of the proceeds of the indemnity occasioned a loss to the company, for which he was accountable, with interest. In Yale Gas Stove Co. v. Wilcox, 64 Conn. 101 (29 Atl. 303, 25 L. R. A. 90, 42 Am. St. Rep. 159), (Foley and Wilcox agreed that the latter should organize a corporation, to which the former should transfer certain patents at twice the price he was ready to take for them and $5,000 in capital stock, and of this Wilcox should receive one-half. The company was held entitled to recover from Wilcox all he had received. In Chandler v. Bacon (C. C.) 30 Fed. 539, Bacon & Cardoc were promoters of the National Color Printing Company, to be formed, and as such negotiated an agreement between the owners of certain patents by which they were to receive two-sixteenths of its capital stock, less 625 shares which were to be given to one Piper. Bacon was to be elected president, and Cardoc secretary. They offered and sold stock to the public at $7 per share; representing that the patents were to be paid for, but without disclosing the secret agreement by which they were to receive two-sixteenths of the stock without consideration. They were held liable to the receiver of the corporation for the value of the stock at the rate for which they disposed of other stock. See note to Pittsburg Mining Co. v. Spooner, 17 Am. St. Rep. 161. The authorities are *390 numerous, and our purpose bas been to call attention to a few of the leading ones only.

As promoter and director, the relation of defendant to the company was that of agent, and it is elementary that an agent is disqualified from representing his principal in any transaction in which his personal interests are opposed to the interests of the principal. This rule applies in all cases where there is danger that the agent may be induced to use his powers as agent for his own advantage. The character of the interest is immaterial, provided it is substantial. While duplicity on his part may in a proper case prove a just ground for rescission, his principal may ratify the deal, and claim all the advantages, including any bonus or commission paid the agent by the other party. Indeed, the right of recovery in event of finding it a part of appellant’s engagement with Smith to aid him in-disposing of his property to the company is not seriously questioned.

3. Fraud: limitations: laches. II. This action was not begun until September 20, 1900, and it is urged that the action is barred by the statute of limitations. The evidence, however, tends to show that the transaction was not discovered until 1896, when the defendant gave the testimony heretofore quoted from his deposition taken in litigation with Smith. Dillon w'as the managing director, and testified the fact that Loetscher had heen employed by and received money from Smith as promoter, had never been mentioned in the meetings of the board of directors or stockholders, and that he had not learned of it till then. Another director’s testimony was to the same effect. Others were not called as witnesses. The defendant swore he had never told any one, and Smith was a nonresident of the State. Any mention of it before the deal was completed would in all probability have proven disastrous to the enterprise, and it was not of a nature likely to be spoken of thereafter. That Loetscher was active in promoting the enterprise ought not to be held enough to put his associates on inquiry with respect *391 to bis honesty in the transaction. It affected the interest of all subscribers, and the fact that the transaction was dishonest, together with the further fact that knowledge of it was purposely withheld from them, constituted fraudulent concealment. In view of the circumstances, we are inclined to' regard the showing of failure to discover this prior to 1896 as sufficient.— Affirmed.