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Oppressive Conduct as Dominion and Control in Conversion Law

Under Texas conversion law, can oppressive conduct constitute wrongful dominion or control over a shareholder's stock? Developing the stock conversion claim.

Conversion Law

Shareholder Oppression Under Conversion Law

To recap the analysis of the conversion cause of action developed in this section of the website:

The assets, opportunities, and operations of a corporation—all the value—constitute something like a trust fund, owned and controled by the corporate entity but for the benefit of the stockholders. Each share of stock is an undivided beneficial interest in the trust fund. Each share of stock is a claim or right to participate in the trust fund’s value. The share of stock, however, is completely intangible. The stock’s existence is based on the continuing assent by the corporation and the shareholder. The shareholder’s claim on the corporation and the corporation’s obligation to the shareholder may be evidenced by a written stock certificate or by written notations in the corporation’s stock ledger, but that written evidence of title is not the “stock,” and the existence or non-existence of such evidence is “irrelevant” under conversion law.  The law considers the shareholder’s stock to be personal property, which carries with it a bundle of rights recognized by the law. To the extent that the stockholder's property is capable of possession, it is at all times possessed by the corporation. The law considers the corporation to be acting as trustee in its possession of the shareholder’s stock for the benefit of the shareholder and imposes on the corporation certain duties of trustees in the preservation of the shareholder’s stock and its bundle of rights. If the corporation wrongfully exercises dominion and control over the stock in a manner inconsistent with the shareholder’s rights, the corporation may be liable to the shareholder for the conversion of the shareholder’s stock. The shareholder’s remedy is an election between equitable relief to restore his ownership or damages for the value of the stock. The cause of action for stock conversion is a direct claim brought by the shareholder in his individual capacity based on legal duties that the corporation owes to the shareholder.

This recap sounds a lot like the shareholder oppression doctrine. The conversion cause of action protects the stockholder’s ownership rights in the stock. The shareholder oppression doctrine protects a shareholder’s reasonable expectations in stock ownership. General reasonable expectations are expectations that the law recognizes are inherent in the nature of share ownership and belong to every shareholder merely by virtue of being a shareholder, such as the expectations that their ownership will be acknowledged, that they will receive a voice in corporate affairs, receive information relating to their investment, have the right to sell their shares, and to receive their proportional share of the profits. These same general expectations recognized by the law are property rights that the law recognizes as inherent in stock ownership. Shareholder oppression was found by the court where majority shareholders used their power over the corporation to extinguish or diminish the value of the minority shareholder’s ownership, but that conduct would also frequently be actionable under conversion law. The buy-out remedy for shareholder oppression transfers the title to the minority shareholder’s stock either to the majority shareholder or back to the corporation (resulting in an increase in the majority’s percentage ownership) in exchange for the value of those shares being paid to the minority shareholder. The damages remedy in conversion law operates in almost exactly the same way, just by means of a money judgment that terminates the plaintiff’s title by operation of law rather than a mandatory injunction that the parties enter into a transaction to purchase the shares. The largest difference is that the shareholder oppression doctrine imposed the duty majority shareholder, whereas the conversion law duties are imposed on the corporation. However, as a practical matter, that is a distinction without a difference. Buy-out orders frequently required the corporation to do the buying, and even when they don’t, the majority shareholder will almost certainly utilize the corporation’s assets to comply with the order. Furthermore, as we explore below, most stock conversion cases also impose personal liability on the majority shareholder or director responsible for the corporation’s misconduct.

The Squeeze-Out under Conversion Law

Where a majority shareholder causes the corporation to cancel a minority shareholder’s stock, or does the functional equivalent and refuses to recognize the minority as a stockholder, then the fact pattern most neatly fits within a traditional claim under conversion law, where the defendant simply steals personal property belonging to the plaintiff. The only shareholder oppression case in Texas that fits cleanly into that fact pattern is Davis v. Sheerin. In most cases of shareholder oppression, however, the majority does not deny that the minority is a shareholder but uses his control over the corporation to deny the minority any of the benefits of stock ownership. That abuse of power is the functional equivalent of cancelling the plaintiff’s stock.   If a minority shareholder receives no more benefit from being a stockholder than a non-owner, how can anyone argue with a straight face that his ownership has not been impaired?

Conversion is “the wrongful exercise of dominion and control over another’s property in denial of or inconsistent with his rights.”  The conversion may be “actual or constructive.”  “A constructive conversion takes place when a person does such acts in reference to the goods or personal chattels of another as amount, in view of the law, to the appropriation of the property to himself.”  It is not necessary that there be a “manual taking of the property in question.”  Any act that interferes with impairs the owner’s property rights constitutes dominion and control. 

The cases developing the corporation’s duties and the shareholder's remedies in stock conversion law make clear that the law protects the rights and benefits of share ownership, as well as the title. In Yeaman v. Galveston City Co., the Texas Supreme Court held that a corporation is required to protect both the shareholders title to his stock and “its fruits from appropriation by the corporation.”  In Sandor Petroleum v. Williams, the court held that the minority shareholder “had a vested property right in the value of his stock.”  The conduct of the majority in Sandor constituted conversion because it “depriv[ed] the owner of the full value of his stock.”  In Tifford v. Tandem Energy, the Fifth Circuit held that proof of the “wrongful exercise of dominion and control” element in the context of the Texas cause of action for stock conversion “requires a corporate act that destroys or impairs the stock's value.”  In Sandor, the plaintiff’s stock ownership was never in dispute. The defendants impaired a specific right associated with that stock, the right to sell it to third parties. The court held that the imposition of transfer restrictions “was an unauthorized alteration of the condition of Williams’ stock,”  which deprived “the holder of previously unrestricted stock of its full value” and thus was actionable under conversion law.

While most of the reported stock conversion cases in Texas do involve some sort of actual detention of the certificate or attempt to cancel or alter the ownership on the company’s books, several cases make clear that what is of real concern to the courts is the interference with the substantive rights of ownership, rather than the technical detention of the certificate or technical entries on company records. In Bower v. Yellow Cab Co., the widow established her right to the shares purchased by her husband, but the court specifically notes that “[n]one of the defendants ever denied to the witness that she owned the stock.”  The company never refused to issue her shares (although it did ignore her requests), and no defendant ever asserted ownership over the shares, so it would seem that there was nothing more nonfeasance in issuing a certificate, which would ordinarily be insufficient to satisfy the elements of conversion law. However, the court emphasized that what established the conversion was not an explicit claim of adverse ownership rights but the violation of the plaintiff’s rights as a shareholder: “[S]he had never up to the time of trial been allowed to exercise any rights of a stockholder and had never been notified of a single stockholders’ meeting, or given an opportunity to be present.”  An opinion in a Florida case makes a similar point. In Goodrich v. Malowney,  the plaintiff was a 23% shareholder, president, and director of the corporation. The remaining shareholders convened a secret meeting and purported to vote the plaintiff’s shares by proxy to change the bylaws, replace the board of directors, and oust the plaintiff as an officer and director. The Florida court of appeals held that the “exercise of dominion and control by appellants over his stock through voting it without his knowledge to destroy his official and directorial connection with the corporation” constituted conversion of his shares as a matter of law and affirmed an award of compensatory damages for the value of his shares and punitive damages.

In Earthman’s, Inc. v. Earthman, the divorce court awarded the wife 65% of the couple’s stock in three corporations controlled by her husband. Subsequent to the entry of the divorce decree, the wife and her attorneys sought to have stock that had been awarded to her transferred into her name on the corporate books of the three corporations. Initially, the corporate attorney raised objections based on transfer restrictions on the stock, and placed the stock into the registry of the court in the declaratory judgment action filed by the wife.  The parties subsequently reached an agreement and filed a joint motion to release the stock from the registry back to the corporations.  The corporations again delayed transfer of the shares, claiming the right to purchase the shares upon transfer pursuant to a right of first refusal.  The wife then sued the corporations and her ex-husband for conversion, and was awarded approximately $650,000 as the full market value of the shares.  The court of appeals rejected the claims that there was any legal impediment to transfer of the shares or that the corporations had any right to purchase the shares. 

The corporations argued that the defendants could not be liable for conversion of the wife’s ownership interest because “beneficial ownership of Mrs. Earthman in the three corporations was never denied by the Earthman defendants, who at all times conceded her ownership of the stock.”  Having ruled that the corporation had no right of first refusal on the stock, it would seem that the stock now conclusively belonged to the plaintiff and that the defendants were guilty of no more than a good faith delay in delivering the share certificates. One might expect that the court would hold that there was “no diminution in the value of the property during the [delay]; the detention relative thereto amounting to no more than a technical conversion for which nominal damages may be recovered, plus such other special items constituting legal injury that plaintiffs may establish as having been suffered during the stated period of detention.”

The court of appeals reversed and remanded for new trial on the grounds that the trial court improperly instructed the jury not to consider the defendants’ claim that they acted in good faith.  However, the court also made clear that there was evidence of much more than a mere delay in issuing the certificate. The court noted that “J. B. Earthman, III, [the ex-husband defendant] told [plaintiff] that it had been decided . . . that her stock was worth $200,000.00 and that that was the amount she was to be offered for it. She testified that she was also told she would never be paid a salary or a dividend on her stock and that if she didn’t take the offer, false charges would be trumped up against her.”  The court also noted that the “jury found that the Earthman defendants had harassed and attempted to intimidate Mrs. Earthman with the intent of forcing her to accept less than the fair value of her stock.”  This evidence, the court held, “was an appropriate consideration for the jury” as to whether or not the defendants acted in good faith.  The court also held that “where corporate directors and officers actively participate in the conversion of another’s property by instigating, aiding or abetting the corporation, they may be held liable as joint tortfeasors with the corporation.”

An interesting New York case shows the converse of this principle. In Silverstein v. Marine Midland Trust Co. of N.Y.,  the defendant wrongfully withheld possession of the plaintiff’s share certificates in a corporation of which the plaintiff was the 100% shareholder. The court held that, at that point, the plaintiff had the option of abandoning title to the stock and suing for its value.  However, notwithstanding the wrongful detention of the certificates, the plaintiff continued to exercise “rights of ownership over the stock by transferring the assets of the corporation to a partnership formed by them, by executing as stockholders, and thereafter filing, a certificate of dissolution of the corporation, and by receiving the return of a substantial portion of their capital investment in the corporation.”  The court held that the plaintiff’s “dominion over the stock” precluded his right to recover the value of the stock in an action for conversion.

While the Sandor case based liability for conversion of stock on the interference with the right of alienation, nothing in that opinion would limit the application of conversion law to that one right. Besides the exclusive right of possession and security in ownership and the right of alienation, stockholders have property rights in the management and economic return from their property. As the court noted in Davis v. Sheerin, the conduct of the majority shareholder evidenced his “desire to gain total control of the corporation.”  A typical squeeze-out scenario, where the majority shareholder cuts off the minority shareholder’s rights to information, participation, and proportionate sharing in profits, particularly in an attempt to force the minority to give up ownership for an unfairly low price, is a much more extreme example of “wrongfully asserting and exercising an authority over a right in the stock which was adverse to and destructive of the vested property right and interest” of the owner than mere attempts to prevent the minority from selling to a stranger, and these efforts that “substantially defeat” the minority shareholder’s property rights in his shares should also establish liability for conversion of the shares.

Of course, not every interference with property rights in stock would constitute a conversion of the stock. “[W]here an owner possesses a full ‘bundle’ of property rights, the destruction of one ‘strand’ of the bundle is not a taking.”  However, the kinds of interference with property rights that typically resulted in buy-out orders under the shareholder oppression doctrine would seem to qualify.

Boehringer v. Konkel as a conversion case

The overturning of the shareholder oppression doctrine in Ritchie v. Rupe raises the question of whether the palpable wrongdoing in Boehringer v. Konkel might have been actionable under one of the alternative causes of action pointed out in Ritchie, such as stock conversion.

Had Boehringer v. Konkel been tried as a conversion case, the court would have started with the principle that the plaintiff “had a vested property right in the value of his stock.”  The defendant’s conduct in denying a shareholder his rights to information and proportional participation in earnings—in fact, any prospect of economic return or benefit whatsoever—certainly was a wrongful exercise of “authority over a right in the stock which was adverse to and destructive of the vested property right[s]” of the plaintiff. 

Having been forced to resign his employment, the only value to the plaintiff of owning stock was his right to participate proportionately in the earnings of a successful corporation through dividends. The defendant’s refusal to pay dividends and actions to funnel the corporate profits only to himself through increasing his salary effectively destroyed the value of the plaintiff’s shares. Had the defendant cut off the plaintiff from any economic return on his share ownership by cancelling his stock on the corporate books, there would undoubtedly have been a conversion.  Had the defendant cut off the plaintiff from any economic return on his share ownership by substituting the plaintiff shares with shares of a different class that did not pay
dividends, the “unauthorized alteration of the condition” of the stock would undoubtedly been a conversion.  Instead, the defendant accomplished exactly the same result and the plaintiff suffered the exact same injury through abuse of majority power that is the functional equivalent of cancellation of the shares. Based on the existing case law development of the tort of stock conversion, Texas courts should hold that such “corporate acts” that “destroy[] or impair[] the stock’s value”  constitute stock conversion.

Houston Business Lawyer Eric Fryar About the author: Houston Business Lawyer Eric Fryar is a published author and recognized expert in the field of shareholder oppression and the rights of small business owners. Eric has devoted his practice almost exclusively to the protection of shareholder rights over the last 25 years. Learn more

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This post represents our opinion regarding the relevant shareholder oppression and minority ownership rights law. However, not everyone agrees with us, and the law is changing quickly in this area. This page may not be up to date. Be sure to consult with qualified counsel before relying on any information of this page. See Terms and Conditions.

 

 

 

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