Commercial Law

by Richard D. Currier; Richard William Hill; Samuel Williston

DIVIDENDS ON STOCK.—Dividends on the stock of corporations are declared by the directors, who have power to use their discretion as to the amount to be disbursed in this way. The statutes are, however, very explicit in prohibiting the declaration of any dividends except out of the surplus profits of the business conducted by the corporation. With respect to dividends properly declared, the declaration of the directors generally provides that they shall be paid to all stockholders registered upon the books of the company at a specified date in the future. Hence, if a stockholder should sell or otherwise transfer his stock, after that date to another person, the latter, while becoming the owner of the stock, would not be entitled to the dividend when paid. It would be payable to the former stockholder, although he might, pursuant to the agreement made with the person to whom he sold the stock, turn over to the latter the amount of the dividend.

CUMULATIVE DIVIDENDS.—It frequently happens that a corporation does not earn any dividends in a particular year. The question arises, is the holder of a 7% preferred stock in a position to demand that the dividend be paid the following year. Suppose the corporation earns nothing in 1921 and earns 14% in 1922. The holder of one share of a non-cumulative preferred stock would receive the usual 7% dividend only in 1922. If the stock were cumulative he would receive 14%. In other words the unearned dividends accumulate and become a charge which the corporation must pay when sufficient is earned in prosperous years before the holders of common stock are entitled to receive any dividend. Usually the stock certificate and the articles of incorporation specify whether stock is cumulative or non-cumulative. If they do not, then reference to the law of the State where the company is incorporated, is necessary to decide such a question.

LIABILITY OF OFFICERS AND DIRECTORS TO THE CORPORATION.—Whether a corporation becomes liable by virtue of action taken by its officers or directors depends upon principles of agency applied to the law of corporations. These principles have already been stated. Whether the directors or officers are themselves personally liable is another matter. Conceivably they may be liable either to their employer (the corporation) or to creditors of the corporation. They are not directly liable to the shareholders as such. Any injury or wrong they may indirectly do to shareholders is directly done to the corporation, the shareholders being injured only because the corporation in which he is interested is injured. Shareholders may, however, institute proceedings against directors or officers if, as not infrequently happens, the corporation itself, being controlled by the wrongdoers, fails to take proceedings. The shareholders in such a case, however, demand redress for the corporation, not for themselves; and whatever may be recovered, is recovered for the benefit of the corporation. The duty of the directors and officers of the corporation is analogous to the duty of any agent to his principal. That is, each officer or director must exercise reasonable diligence in the performance of his work and must observe fidelity to his principal. The application of these principles to particular fact is not always easy, but the principles themselves are plain. Especially the degree of care which directors are bound to use presents a troublesome question of fact. In a small business it may be the duty of a director to take active control of the policy of the company and supervise with some minuteness each business operation. Such direction is impossible where a great railroad or industrial corporation is concerned. In such a case directors necessarily derive their information from subordinate agents and cannot investigate facts for themselves. Directors are not liable for mistakes of judgment if they use reasonable care; if, however, they wilfully do an act which they know is not authorized by the charter or by-laws of the corporation, they will be liable for the consequences. Directors who are cognizant of wrongs committed by their co-directors and fail to take available measures to prevent the wrongs, become liable themselves. Directors may terminate their liability for future acts by resigning, but resignation will not destroy liability for acts already done even though the resulting damage does not happen until after resignation. The corporation requires that a director or other officer shall not act on behalf of the corporation in a matter in which he has a personal interest at variance with that of the corporation. Should matters of this sort arise, as they often do, the interested officer or director should not take part in the decision of the question, and may render himself liable if he does so.

LIABILITY OF OFFICERS TO CREDITORS.—So long as a corporation is solvent, creditors of the corporation have no reason or right to seek redress from any one but the corporation itself. Creditors of an insolvent corporation, however, may enjoin action by the company's officers which is unauthorized or likely to prove detrimental to the assets of the corporation. If the officers knowingly misapply the assets of an insolvent corporation they are personally liable to the creditors for the injury caused thereby. They are liable sometimes by statute, but also even apart from statute, for false statements of the condition of the corporation in reliance upon which credit is given the corporation. Like other agents, the officers of a corporation impliedly warrant to persons with whom they deal their authority to do the acts which they undertake; and if authority is lacking, they are liable personally. The only qualification of this principle is that if the facts from which authority, or lack of it, may be determined, are known to the person dealing with them, they are not liable; that is, they do not warrant the correctness of an inference of authority from known facts.

LIABILITY OF BANK OFFICERS.—The principles governing the liability of bank directors and other officers of a bank are the same as those which govern similar questions regarding other corporations. The bank laws, however, impose certain duties and penalties which affect the application of general principles. It may be worth while to enumerate briefly some of the duties of different bank officers, a violation of which renders them personally liable. As to directors it has been said that "It is not necessary to show directly that the directors actually had their attention called to the mismanagement of the affairs of the bank, or to the misconduct of subordinate officers. It is sufficient to show that the evidence of the management or misconduct were such that it must have been brought to their knowledge unless they were grossly negligent or wilfully careless in the discharge of their duties." They are liable for the consequences not only of their own fraud but of their ultra vires acts. They are liable for approving the discount of notes known to be worthless or of so doubtful value as to be obviously unsafe. If guilty of negligence in failing to discover that such paper was worthless they may also be liable. They are guilty of negligence and may thereby render themselves liable if they wholly neglect to ascertain the condition of the bank from its books, though a thorough examination of the books of a bank, especially of one transacting a large business, cannot be expected of every director; and the law would require no more than would be demanded by the standard of reasonableness.

THE PRESIDENT.—The duties of the president, and consequently his liabilities, must be determined by general law, the charter of the particular institution, its by-laws, and by general business usage. Thus, if the usage exists for the president to draw and sign checks in the absence of the cashier, the president will have authority so to act. He has authority to conduct the litigation of the bank; he may employ counsel. He may generally indorse negotiable paper of the bank. On the other hand, he will be personally liable if he permits improper loans or over-drafts; if he fails to give proper instructions to inferior officers; if it is his duty to require a bond from an inferior officer, and he fails to do so; and, generally, if he commits a breach of duty to the corporation which causes damage. He has no power to execute deeds of real estate without authority of the directors and, generally, an instrument which must be executed under the seal of the bank must be authorized by the board. The discount of negotiable paper also is a duty of the directors.

THE CASHIER.—The Supreme Court of Maine has thus expressed the functions of the cashier of a bank: "A cashier, it is well known, is allowed to present himself to the public as habitually accustomed to make payment for its bills or notes payable to other persons; to make payment for bills and notes discounted by the directors; to receive payment for bills of exchange, notes, and other debts due to the bank; to receive money on deposit and to pay the same to the order of the depositors. He is presented as having the custody of its books, bills of exchange, notes, and other evidences of debt due to it, and, indeed, of all its movable property; as making entry in its books and as keeping its accounts and a record of its proceedings. In many banks these duties are performed in part by tellers, clerks, or assistants, but generally, it is believed, under his superintendence, and he might at any time assume the performance of them and perform them, if able to do so, without such assistance. His true position appears to be that of a general agent for the performance of his official and accustomed duties. While acting within the scope of this authority he would bind the bank, although he might violate his private instructions." He must exercise proper oversight over subordinate officers; he must use reasonable care and skill. He may become liable personally for failure to observe instructions as to a special deposit; for the improper sale of stock held as security for a loan; for improperly making loans, for failure to give essential information to the directors; for failing to exercise proper oversight over inferior officers or agents, as well as in the more obvious case where he has taken advantage of his position to commit intentional fraud upon the bank.

BLUE SKY LAWS.—The term "blue sky" has become very familiar to the corporation lawyer in the last few years. The so-called "blue sky" legislation is a well meaning, if partly futile, attempt to meet an existing evil in connection with the sale of corporate securities. We shall find later that five elements are necessary to constitute the action of fraud or deceit: (1) a false representation of a material fact; (2) made with knowledge of its falsity; (3) with intent that it be acted upon; (4) that it be acted upon; (5) damage follows. The courts have almost universally held that a mere statement of opinion does not give rise to a cause of action for fraud, whereas a mistatement of fact does. Hence if I state to you when selling you 100 shares of the Bonanza Gold Mining Corporation that the company has never paid less than 20% in dividends during the last five years and you purchase the stock relying on this misrepresentation of fact (the situation actually being the company has never paid a dividend) you would have a cause of action in deceit against me. If, however, I had simply said in selling you the stock that the outlook for the company was the brightest in its history, that the president had told me that dividends of 30% a year were assured indefinitely and that this stock was by far the best bargain which had been on the market in over a year, although I know when I made such statements that there was little or nothing to substantiate them, nevertheless, I would not be liable in deceit. My statements were merely matters of opinion or what we call "seller's talk" or "puffing one's wares."

THE FINANCIAL PROSPECTUS.—If you will examine the average financial prospectus of a new stock being offered for sale to the public, you will find that when most of the high sounding terms and flattering statements are analyzed carefully that they will fall in this second class of non-actionable statements. There are few statements of fact but many glowing statements in the nature of "seller's talk." We all know, however, that enormous quantities of worthless stock are sold each year by this method. When business conditions are good it sometimes seems as if the wilder the scheme the easier it is to find a gullible public ready to purchase such securities. To prevent the perpetration of such frauds on the public is the object of the so-called "blue sky" legislation.

THE LAW ANALYZED.—The first "blue sky" law was passed in Kansas in 1911. The evil sought to be remedied was so prevalent that the idea spread rapidly and now similar legislation, of one type or another, has been enacted in a majority of the States. Some of the acts are crude, some have been held unconstitutional, and many are difficult of enforcement. Recently, however, more care has been taken in drafting such legislation, and many of the earlier laws will undoubtedly be amended to conform with this later legislation. We may take the Illinois statute of 1919 as a good sample of a drastic yet fairly workable Act. The law may be briefly considered from three standpoints: (1) the persons affected; (2) the securities affected; (3) the penalties provided for violation of its provisions.