Fortenberry v. Cavanaugh, No. 03-07-00310, ___ S.W.3d ___, 2008 WL 4997568 (Tex. App.—Austin November 26, 2008). [Click here to read slip opinion]
The Austin court of appeals has decided a new case highlighting issues over attorneys' fees and the use of the declaratory judgment procedure in shareholder litigation. The case involved a drawn-out and costly battle over control of a family corporation. The corporation, Fortune Products, Inc., manufactured and sold knife sharpeners. The corporation was originally owned and managed by the father and mother. When the father became ill with cancer, the corporation was restructured to provide equal stock ownership to the son and his wife, on the one hand, and to the daughter and her husband the son-in-law, on the other. Both children and their spouses were on the board of directors. The son was named president. The son-in-law was named vice-president, and the daughter was named secretary-treasurer. It seems that the intent of the restructuring was to have the two families run the corporation cooperatively, with neither exercising control over the other. While the corporation remained solvent and profitable, the two families fell to bickering over management very shortly after both parents died. After several years of squabbling, with built-in deadlock at both the board and shareholder levels, the son purported to exercise his "inherent authority" as president to change the duties of the son-in-law and to bar his involvement in management, participation in the business, access to information, and even presence on the premises. However, both the daughter and son-in-law retained their share ownership, directorships, corporate offices and salaries. Litigation ensued instantly over the extent of the president's actual authority.
The case was tried to a jury, and the trial court entered a judgment based both on the jury findings and on the court's interpretation of the corporation's unambiguous by-laws. Attorneys' fees were tried to the court. The court entered a series of declaratory judgments, appointed a receiver for the corporation, and awarded the daughter and son-in-law almost $800,000 in attorneys' fees. The son appealed. As described in the court of appeals' opinion, the case was characterized primarily as declaratory judgment action, and the principal issue became the award of attorneys fees; however, the declaratory judgment procedure really seems to be the tail wagging the dog. The issue was one of whether the actions taken by the son were proper or improper, whether damages should be awarded on the derivative claims, and whether a receiver should be appointed. Attorneys' fees would certainly have been recoverable under the derivative actions statute and, at least in part, under the inspection of records statute. The court's focus on this case as one for declaratory judgment makes the litigation seem like a bit of an abuse of that procedure, of using the declaratory judgment procedure solely as a mechanism to manufacture a right to recover attorneys fees. However, that challenge was not raised by either party and was not addressed by the court of appeals. In part, this focus is the result of the jury's findings in which the son's assertions of authority over the son-in-law were clearly wrong, but the jury failed to award damages. Also, the court of appeals may be faulted for focusing on declaratory judgment aspect of the case as the easiest way to affirm a judgment that seems to have been correct. However, the danger is that litigants relying on this opinion will seek to cast their disputes principally as requests for declaratory judgments, under circumstances that abuse that procedure and will not be upheld on appeal.
The son attacked the attorneys' fees award on the grounds that the son-in-law was not the prevailing party, given that some of the jury's findings were also against the son-in-law. The court of appeals held that attorneys' fees were recoverable under the declaratory judgment act and did not address the alternative bases of recovery, TBCA art. 5.14(j) (for the derivative actions) and TBCA art. 2.44(B), (D) (for violation of inspection rights). Pursuant to Tex. Civ. Prac. & Rem. Code Ann. § 37.009, "the court may award costs and reasonable and necessary attorney's fees as are equitable and just." The court held that, although the son-in-law did not prevail on every theory, he prevailed sufficiently that the court's determination that the award of attorneys' fees was just and equitable would not be an abuse of discretion. The court also noted, but did not base its holding on, the authorities that a party does not have to substantially prevail to recover fees under the UDJA. See, e.g., Barshop v. Medina County Underground Water Conservation Dist., 925 S.W.2d 618, 637 (Tex. 1996) (fee award not dependent on finding that a party "substantially prevailed"); G. Prop. Mgmt., Ltd. v. Multivest Fin. Servs. of Tex., Inc., 219 S.W.3d 37, 53-54 (Tex. App.—San Antonio 2006, no pet.) ("The Declaratory Judgment Act does not limit an award of attorney's fees only to a prevailing party."). The son also attacked the son-in-law's failure to segregate attorney's fees. The attorneys' fees expert had testified that the declaratory judgment claim on the president's authority was the central issue in the case, that all other matters were inextricably intertwined, and that segregation was therefore not required. The court held that the son had not preserved the issue for appeal because no objection had been made at the time that the evidence was presented to the trial court. See, e.g., Green Int'l, Inc. v. Solis, 951 S.W.2d 384, 389 (Tex. 1997) ("if no one objects to the fact that the attorney's fees are not segregated as to specific claims, then the objection is waived"); McCalla v. Ski River Dev., Inc., 239 S.W.3d 374, 383 (Tex. App.—Waco 2007, no pet.) (to preserve complaint that the opposing party failed to segregate its attorney's fees, "[g]enerally, such an issue is preserved by objection during testimony offered in support of attorney's fees or an objection to the jury question on attorney's fees"); Hong Kong Dev., Inc. v. Nguyen, 229 S.W.3d 415, 454 (Tex. App.—Houston [1st Dist.] 2007, no pet.) (objection to failure to segregate preserved through objection to charge); Apache Corp. v. Dynegy Midstream Servs., 214 S.W.3d 554, 566 (Tex. App.—Houston [14th Dist.] 2006, pet. granted) (failure to object waives opposing party's failure to segregate). However, the court also held that the evidence was sufficient to sustain the implied finding (the son failed to request finding of fact) that segregation was not required. Pursuant to the supreme court's guidelines, a claimant must segregate attorney's fees between claims for which attorney's fees are recoverable and those for which fees are not recoverable. Tony Gullo Motors I, L.P. v. Chapa, 212 S.W.3d 299, 313 (Tex. 2006). When legal services advance both recoverable and unrecoverable claims, however, the services are so intertwined that the associated fees need not be segregated. Id. at 313-14. The need to segregate fees is a question of law, while the extent to which certain claims can or cannot be segregated is a mixed question of law and fact. Id. at 312-13.
The issue of a president's authority comes up frequently in shareholder litigation where the parties are in a position of deadlock. When the shareholders each own 50% of the shares or when the board of directors is evenly divided with no tie-breaking mechanism, then the shareholder who exercises actual managerial control over the business will be in a position of control and will have the ability to oppress the remaining shareholders. However, this ability to control is not necessarily nefarious. When the owners of a corporation are in a position of deadlock, the party with control may be the one acting in the best interest of the corporation, and as a practical matter, somebody has got to continue running the business. The facts in this case certainly indicate that the son believed he was acting in the best interest of the corporation in acting to seek a practical solution to the deadlock over management and that his conduct did not result in the other shareholder's loss of any economic benefits of stock ownership. In this case, the son clearly over-reached his authority under the by-laws of that corporation. While the court agreed that the president did have general day-to-day management authority, it did not include redefining the duties of the vice-president. The by-laws provided the board of directors with the authority to hire officers and employee and to set the terms of their employment, and further expressly stated duties of the vice president. In San Antonio Joint Stock Land Bank v. Taylor, 105 S.W.2d 650, 654 (Tex. 1937); the supreme court had held that "the rule is generally accepted that the president of a corporation may be entrusted by the board of directors with the management of the business of such corporation, and he may perform for the corporation the business it is authorized to transact." The issue, however, was "not whether a board of directors may delegate its authority to a president, but the extent of any such delegation." In Ennis Bus. Forms, Inc. v. Todd, 523 S.W.2d 83, 86 (Tex. Civ. App.—Waco 1975, no writ), the court held that the president had authority to execute an employment contract with a non-officer employee because the bylaws authorized the president to execute contracts "in the ordinary course." In Miller v. A.&N. R.R. Co., 476 S.W.2d 389, 393 (Tex. Civ. App.—Beaumont 1972, writ ref'd n.r.e.), the court determined that the president was authorized to hire the general manager because the bylaws specifically "provided for the appointment of a General Manager by the President." In Mr. Eddie, Inc. v. Ginsberg, 430 S.W.2d 5, 10 (Tex. Civ. App.—Eastland 1968, writ ref'd n.r.e.), the court recognized the general rule that "the president of a corporation has the authority to hire and discharge employees." However, the employees in that case were non-officer employees. The court held that all of these cases are distinguishable because the by-laws governing this corporation provided that the hiring, firing, and delegation of duties to the vice-president were to be exercised by the board. The court held that the by-laws must be read as a whole, and therefore neither the general authority of the president nor the specific delegations of authority permitted the actions taken against the son-in-law. see also Templeton v. Nocona Hills Owners Assn, Inc., 555 S.W.2d 534, 538 (Tex. Civ. App.—Texarkana 1977, no writ) ("settled rule in Texas is that a corporation president, merely by virtue of his office, has no inherent power to bind the corporation except as to routine matters arising in the ordinary course of business"); see also Tex. Bus. Corp. Act Ann. art. 2.42(B) (West 2003) ("All officers . . . , as between themselves and the corporation, shall have such authority and perform such duties in the management of the corporation as may be provided in the bylaws, or as may be determined by resolution of the board of directors not inconsistent with the bylaws.").
The court also upheld the appointment of a receiver. The court indicated that in addition to TBCA arts. 7.05 and 7.06 the court had authority to appoint a receiver in this case under Tex. Civ. Prac. & Rem. Code Ann. § 64.001(a)(3), (6), which provides that a court may appoint a receiver in an action between "partners or others jointly owning or interested in any property or fund" or "in any other case in which a receiver may be appointed under the rules of equity." The court held that it lacked jurisdiction to hear the appeal regarding the appointment of the receiver because the trial court had issued an interim order appointing the receiver before it issued a final judgment, and the son had not brought an interlocutory appeal within 20 days of the interim order. The only remedy available was a motion to terminate the receiver. See Sclafani v. Sclafani, 870 S.W.2d 608, 611 (Tex. App.—Houston [1st Dist.] 1993, writ denied) (distinguishing between an action to terminate a receivership with an action to set aside the receivership). See also Benningfield v. Benningfield, 155 S.W.2d 827, 827-28 (Tex. Civ. App.—Austin 1941, no writ) (court lacked jurisdiction to hear appeal filed 22 days after original order appointing a receiver, but within 20 days of subsequent order appointing different receiver); Long v. Spencer, 137 S.W.3d 923, 926 (Tex. App.—Dallas 2004, no pet.) (because the initial appointment of the receiver was by agreed order, the court concluded that the "general receiver-based complaints and complaints concerning the original receiver were appealable after entry" of the agreed order, and "[a] challenge to the receivership order after twenty days has passed is untimely and will be dismissed by the appellate court."). This aspect of the court's opinion highlights a real trap for the unwary any time a receiver is appointed. The filing of an interlocutory appeal to challenge the appointment of a receiver when a final judgment is anticipated in the very near future may seem counter-intuitive and wasteful, but the party desiring to challenge the receivership may otherwise lose that ability.
Finally, this case provides some insight into the proper way to submit jury issues in Texas shareholder oppression cases. While this case was not prosecuted as an oppression case, and the definition of "reasonable expectations" was not submitted, the court did submit the following question regarding an unwritten agreement among the shareholders:
Did the Plaintiff Cavanaughs and the Defendant Fortenberrys agree that as of August 1, 2000, the company would be operated on a 50/50 basis, with neither party having final authority over the other, or did they agree that Dale Fortenberry, Jr., as President, would have final authority on all corporate decisions.
Agreements may be expressed or demonstrated by the course of dealings between the parties. You may consider all of the evidence admitted in this case, including the parties' conduct, the bylaws of Fortune Products, Inc. and the history of the company.
Furthermore, the court submitted a litany of specific acts that would be similar to those submitted in an oppression case:
Do you find that Dale Fortenberry, Jr., engaged in any of the following actions?
* * *
You are instructed that Dale Fortenberry, Jr., is responsible for his actions as well as those persons, if any, who acted with him with knowledge of, agreement with, and intention to accomplish a common objective or course of action.
You are instructed that Jay and Dianna Cavanaugh, as directors of Fortune Products, Inc., are entitled to have access to and inspect all books and records of Fortune Products, Inc.
A. Misapplied the assets of Fortune Products, Inc.?
B. Maliciously suppressed dividends from Fortune Products, Inc.?
C. Excluded Jay or Dianna Cavanaugh from participation in the day to day operations of the company?
D. Excluded Jay Cavanaugh from contact with the Company's sales people, distributors, or customers?
E. Prevented Jay Cavanaugh from performing his duties as Vice President?
F. Withheld information from Jay and Dianna Cavanaugh about Fortune Products, Inc. operations?
G. Altered Fortune Products, Inc.'s computer system to deny Jay Cavanaugh access?
H. Usurped corporate opportunities for Fortune Products, Inc. for himself?
I. Received benefits that other shareholders of Fortune Products, Inc. did not receive?
J. Acted to deliberately reduce the value of the Cavanaughs' stock?
K. Made purchases or entered into contracts not authorized by the Board of Directors of Fortune Products, Inc.?
L. Changed the locks in order to deny Jay and Dianna Cavanaugh access to Fortune Products, Inc. property?
M. Signed checks on Fortune Products, Inc. without authority from the Board of Directors?
N. Violated orders of the Court regarding Fortune Products, Inc. operations?
O. Used Fortune Products, Inc. funds to pay personal expenses?