California Western Holding Co. v. Merrill

This is an appeal from a judgment of dismissal, entered after an order sustaining a demurrer without leave to amend, and from an order denying a motion for leave to amend. The complaint is based upon “subscription agreement for shares of stock of proposed corporations ...” dated January 15, 1929, which will hereafter for convenience be referred to as agreement. The agreement set up a management committee, which was empowered to fill any vacancies occurring in the membership of the committee, and to incorporate the two companies therein provided for, and to do and perform all acts and things necessary to effectuate the purpose thereof.

The agreement recites that it is proposed to create two corporations, the first to be known as California Western Holding Company, a California corporation, and the second, the Ritz Carlton Hotel Company of Los Angeles, a Delaware corporation, which corporations will for brevity hereinafter be called Holding Company and Operating Company, respectively. The Holding Company was to be organized under the laws of the state of California with a capital stock structure of 14,000 shares of common stock at $100 par value for each share, the management committee was authorized to name the number of directors of this corporation from among the subscribers to the agreement or other persons,

The agreement proceeds to recite that the Operating Company will thereupon lease the hotel from the Holding Company, furnish and equip the same and negotiate an agreement for the actual management of the hotel with the Ritz Carlton Management Corporation, a New York corporation, under license from the Carlton Investing Company, a Delaware corporation. It will be observed, and the agreement does in fact so recite, that the objective of the management committee was to build an hotel on the Krotona Hills site that would be a part of the Ritz Carlton chain of hotels.

In the agreement, it is proposed to sell to and the subscribers thereto contract to buy units of stock comprising one share of the stock of the Holding Company and one share of the preferred and one share of the common stock of the Operating Company for $170 per unit, payable 20 per cent each at intervals “of not less than six months on demand of the treasurer or other authorized person pursuant to resolution of the boards of directors ...” The units so sold were subject to the agreement made by the Operating Company and the Ritz Carlton Management Corporation to place 5,000 shares of the common stock of the Operating Company, together with an additional 10,000 shares of the same stock, which was to be issued to the Ritz Carlton Management Corporation, in a voting trust. Thereafter, provisions were made for issuance, indorsement and delivery of the stock contracted to be purchased by the various subscribers to a depositary for a period of one year, giving the right to each subscriber to sell during the year at certain prices, to join a pool, or to withdraw the e stock, all on certain conditions the specific nature of which is not material.

The complaint, to which a demurrer was sustained without leave to amend, alleges that the management committee, together with divers other persons and corporations, who executed the agreement, associated themselves together for the purpose of consummating the object of the agreement, and that the defendant Don Lee was one of those persons, and subscribed for 74-units at a total purchase price of $12,580; that the subscriptions taken were made between January 15, 1929, and December 18, 1929, and that on December 18, 1929, more than 8,000 units had been subscribed for. The exact date of these subscriptions is not alleged in the original complaint (although in the amended complaint the date of defendant Lee’s subscription is set out as July, 1929), and while the terms of purchase are alleged as recited in the agreement, it is not alleged whether or not defendant- Lee paid the first 20 per cent of the purchase price upon the date of execution of the subscription, the only allegation in this respect being that a payment was made by Lee “on or about May, 1931,” in the amount of $2,516. It is alleged that the management committee caused the organization of the Holding Company, and that its articles of incorporation were filed October 4, 1929, with the Secretary of State, and a certified copy thereof filed with the county recorder of Los Angeles County on October 7, 1929. The object, capital structure and official personnel of the Holding Company is then set forth, followed by an allegation that the Holding Company has carried on and is carrying on the business contemplated by the agreement. Then follow allegations reciting the incorporation of the Operating Company in Delaware on January 13, 1930, filing of the articles of incorpora.

The acceptance by the companies and the succession to the agreement is then recited, although the exact or approximate date is not alleged, followed with allegations that in reliance thereon, the Holding Company purchased the Krotona Hills site and additional lands contiguous thereto “to secure a better site for said hotel”; that payments had been already made thereon and that in order to pay the balance it was necessary to obtain the balance of the money due on subscriptions made by the various subscribers in the agreement.

The complaint further alleges that on June 30, 1930, the Operating Company agreed with the Ritz Carlton Management Corporation of New York and the Carlton Investing Company of Delaware, pursuant to which permission was received to use the names Ritz and Carlton singly or in combination, and whereby the New York corporation undertook to manage the hotel for a period of twenty-one years with a renewal privilege of twenty-one years more. The issuance of the 5,000 shares of the capital stock of the Operating Company for purposes of a voting trust is then alleged, as provided for in the agreement, although nothing is said about the 10,000 shares of stock which were to be issued to the Ritz Carlton Management Corporation and placed in a voting trust as required in the agreement. It is then alleged that on December 19, 1929, the management committee had issued to members thereof a permit by the commissioner of corporations, authorizing the committee, as trustee, to offer for sale, negotiate for sale, and take subscriptions for shares of stock of the Holding Company and Operating Company in units, as provided for in the agreement, not to exceed 8,790 units at $170 per unit, and to collect not to exceed 20 per cent of the sale price thereof. Nothing is alleged as to

There is a second cause of action in form of assumpsit, predicated upon and alleging the agreement referred to, alleging an unpaid balance of $7,548 on the subscription of the defendant Don Lee, that no part of said balance has been paid, and requesting judgment for that amount.

At the time respondent made his subscription, the portions of the Corporate Securities Act which are of immediate relevancy to the situation presented, were section 25, section 2, subdivisions 3, 4 and 5; section 2, subdivision 7, paragraphs (a) and (d) and subdivision 9, and sections 3, 12, 13 and 14.

All references to the Corporate Securities Act made herein are made to the act as it existed at the time the subscription agreement in question was executed, to wit: The

A mere reading of the foregoing excerpt demonstrates that three conditions precedent were at that time required to make valid a preorganization subscription to the stock of a domestic corporation, i. e.: 1. Setting it forth in the articles of incorporation; 2. Completing the incorporation of the company within ninety days after subscription is taken; 3. Making application to the commissioner of corporations for a permit to issue stock in accordance with the preorganization subscription within a reasonable time after incorporation.

The decisive questions on this appeal are: First, whether the agreement, the terms of which have been sub-' stantially outlined, is a preorganization subscription agreement within the meaning of section 25 of the Corporate Securities Act; and second, if it is, has the conduct of the parties, as pleaded in the original complaint or in the proposed amended complaint which will be treated hereinafter in more detail, created a new valid agreement, binding upon the parties under the doctrine announced in Moore v. Moffatt, 188 Cal. 1 [ 204 Pac. 220 ].

Appellants contend that the agreement is not one within the' purview of section 25, but rather a preliminary agreement for the organization of conventional corporate agencies to

There may be some distinction between a preorganization subscription agreement, as contemplated by the Corporate Securities Act, and the type of agreement which appellants have defined as above, and which they assert is the kind of transaction involved in the instant case. If there is such a distinction, it is of so nice and refined a nature that it might-have been a subject for debate for the schoolmen of the middle ages, but it can hardly be said to be of any particular utility in the field of corporate activity of this day. Almost every preorganization subscription in which a number of parties join is a preliminary agreement utilized by its signatories for the formation of a corporation for purposes which are either set out or kept out of the agreement, and no stock can be legally issued until a corporation is formed, and a permit obtained, and when the stock is so issued, it represents the proportionate shares of the subscribers in the corporate enterprise; but the mere fact that the corporation has been regularly formed and that the permit to issue stock has been regularly obtained, and that the stock so issued accurately reflects the share of the subscriber in the corporate enterprise, does not make a preorganization subscription anything but a preorganization subscription, nor will these factors make such a subscription valid unless all the requirements of the Corporate Securities Act with reference to such subscriptions have been complied with.

In our opinion the agreement in question must be construed as a preorganization subscription agreement within the scope of the Corporate Securities Act. The parties themselves have called it a “subscription agreement”, its language and terms make it apparent that it is a subscription agree

“It has been held that under such circumstances the statute becomes a part of the subscription agreement, and unless the conditions are complied with a subscription agreement is not enforceable. ...”

Furthermore, section 25 grants permission to take subscription agreements in domestic corporations only. No permission or right to take such subscriptions to the stock of foreign corporations is pleaded, nor is any given by statute and such preorganization subscriptions are void (Olds v. Simmons, supra; People v. Oliver, supra); and there is nothing unconstitutional in the right of the legislature, as appellant contends, to regulate the sale of securities of a foreign corporation in this state. (Gillis v. Pan American Western Petroleum Co., 3 Cal. (2d) 249 [ 44 Pac. (2d) 311 ].)

The complaint affirmatively shows that the incorporation of either corporation did not take place for more than ninety days after the subscription of the respondent. It was

The pleadings affirmatively show that the permit was not issued to either corporation, as distinguished from the original committee mentioned in the agreement, until August 6, 1930. The date of the agreement was January 15, 1929, and of respondent Lee’s subscription, July, 1929. On the facts as pleaded, this was too long a delay. (Herkner v. Rubin, supra; Rossi v. Jedlick, supra; First National Bank of Calexico v. Thompson, supra.)

The agreement provides for the issuance and sale of securities either by the companies to be formed, since a preorganization subscription is a security (Corporate Securities Act, sec. 3 and sec. 12), or by the management committee which it sets up. In either event, the securities so issued and sold are void for lack of compliance with the Corporate Securities Act. Under subdivision 3 of section 2, the word “company” is defined to include trustees, and subdivision 4 of the same section specifies “trust” as including all voluntary trusts, as the same are defined in the Civil Code. (Civ. Code, secs. 2216 et seq.) Section 2219, Civil Code, provides: “Everyone who voluntarily assumes a relation of personal confidence with another is deemed a trustee, within the meaning of this chapter, not only as to the person who reposes such confidence, but also as to all persons of whose affairs he thus acquires information which was given to such person in the like confidence, or over whose affairs he, by such confidences, obtains any control.”

A security is defined by paragraph (a), subdivision 7, of section 2, as follows: “(a) All shares or other interests or rights into which the capital, capital stock, or property of companies or rights of stockholders or members thereof are divided, including all treasury shares and shares of their

Section 12 of the act provides: “Every security issued by any company, without a permit of the commissioner authorizing the same then in effect, shall be void, and every security issued by any company, with the authorization of the commissioner but not conforming in its provisions to the provisions, if any, which it is required by the permit of the commissioner to contain, shall be void.”

It is settled that trustees named in a preorganization agreement with powers to organize a corporation and collect funds are trustees of an express trust. (West v. Crawford, 80 Cal. 19 [ 21 Pac. 1123 ]; Reno v. American Ice Machine Co., 72 Cal. App. 409 [ 237 Pac. 784 ]; People v. Oliver, supra; People v. Claggett, supra; Ross v. Silent Drama Syndicate, 82 Cal. App. 109 [ 255 Pac. 225 ]; Agnew v. Daugherty, 189 Cal. 446 [ 209 Pac. 34 ]; In re Girard, 186 Cal. 718 [ 200 Pac. 593 ]; Barrett v. Gore, 88 Cal. App. 372 [ 263 Pac. 564 ].) In West v. Crawford, supra (pp. 27, 31), the court says: “ . . . it amounts to a subscription to the stock of a corporation, to be thereafter organized; and in addition, it is an express promise to pay to the plaintiff in this action twenty per cent of the amount of such subscription. . . . The parties mutually agreed with each other, that is, with those who signed the contract, to pay a certain sum of money to the "plaintiff. He was thereby made a trustee of an express trust, and authorized to collect the money agreed to be paid. . . . The parties by their mutual agreement made the plaintiff their trustee to collect and receive the money to be paid.”

There is no allegation in the complaint that indicates that any of these subscriptions were taken after the permit which was originally issued to the committee mentioned in the preorganization subscription agreement. To the contrary, the language of the complaint with respect to this originally issued permit shows clearly that all it purported to do was to authorize the committee to negotiate for, offer for sale and take subscriptions from and after December 19, 1929. It seems obvious that if the- organization committee needed a permit to negotiate for, offer for sale and take subscriptions after December 19, 1929, that they needed a permit to take the subscriptions which included that of respondent Lee, and which they gathered between January 15, 1929, and December 19, 1929.

Further, it appears from the complaint in question that no permit of any kind was issued to either corporation until August 6, 1930, and that the Holding Company was organized October 4, 1929, and the Operating Company on January 13, 1930, and that the subscriptions, including that of respondent, were accepted by both companies before either had a permit, as required by section 3 of the Corporate Securities Act. Such acceptance without a permit was clearly void. (Sec. 12, Corporate Securities Act; Reno v. Ice Machine Co., supra; Tatterson v. Kehrlein, 88 Cal. App. 34 [ 263 Pac. 285 ]; Commercial Bldg. Co. v. Levy, 108 Cal. App. 54 [ 290 Pac. 1048 ].)

It is settled that the provisions of the Corporate Securities Act in force at the time the contract was made

A failure to plead compliance with the law, as well as with the written provisions of the contract, renders the complaint subject to and vulnerable against demurrer. (Di Fiore v. Bohnett, 54 Cal. App. 88 [ 201 Pac. 145 ] ; Gibson v. Hercules Mfg. etc. Co., Inc., 80 Cal. App. 689 , 702 [ 252 Pac. 780 ].)

An analysis of the original complaint and the proposed amended complaint discloses further that the plaintiff not only has failed to plead compliance with the law, but in' addition that neither complaint pleads compliance with the written terms of the agreement itself.

Nowhere in either complaint is it alleged that 10,000 shares of the common stock of the Operating Company were issued to the Ritz Carlton Management • Corporation, as provided in the subscription agreement, or that the subscription agreement was ever approved by the commissioner of corporations, or that the committee performed the agreement. In addition, there is a negative showing, but none the less binding upon the pleader, that the shares issued were on terms different from those in the subscription agreement. The allegation in this latter respect is that plaintiff tendered the shares to defendant Lee “subject, however, to and in accordance with the terms and conditions of such subscription agreement and said permit”. The terms of the permit were not pleaded in either complaint, and in face of a demurrer for uncertainty, the court has a right to assume, since no attempt was made to correct this evasive allegation, that if the terms of the permit were set forth they would be against the pleader. (Smith v. Buttner, 90 Cal. 95 [ 27 Pac. 29 ]; Whittemore v. Davis, 112 Cal. App. 702 [ 297 Pac. 640 ].)

In face of direct averments which are made showing failure to comply with the agreement, and the failure of appellant to clarify evasive allegations to which objections were

The second cause of action in the original complaint is subject to the same defects as the first, because it is obvious that the second cause of action is merely a restatement of the first in the form of a common count. It alleges an “amount due and unpaid under that certain agreement alleged in the first cause of action ...” The “agreement” alleged in the second cause of action is obviously subject to the same objections as the agreement in the first cause of action.

We believe that it has been satisfactorily shown that the agreement was one in which preorganization' subscriptions were taken and that such subscriptions became invalid by reason of the failure of appellants to comply with the Corporate Securities Act, and that the original complaint did not state a cause of action on either of the causes of action which it pleaded.

We now proceed to the second point raised by appellant, i. e., was a new contract made between the parties under the doctrine of Moore v. Moffatt, supra. In treating this question, we will also consider the sufficiency generally of the proposed amended complaint. This amended pleading which the court refused appellant permission to file, alleged three causes of action. The first and third causes of action of the proposed amended complaint were mere restatements of the first and second causes of action of the original complaint, both of which, however, were and are subject to the defects which have already been pointed out. The second cause of action of the proposed amended complaint alleges substantially the same background as that alleged in the first cause of action of the original complaint, but in addition alleges that on or about February 1, 1930, and also immediately following the incorporation of the two companies, both companies did “adopt and accept the terms and conditions of said agreement

It is worthy of note that appellants did not plead the facts suggested, contenting themselves with an allegation of a conclusion of law which tenders no issue. (Vanasek v. Pokorny, 73 Cal. App. 312 , 317 [ 238 Pac. 798 ]; Blackwood v. McCallum, 187 Cal. 655 , 659 [ 203 Pac. 758 ]; Davies v. Ramsdell, 40 Cal. App. 424 , 430 [ 181 Pac. 94 ]; Turner v. White, 73 Cal. 299 , 301 [ 13 Pac. 794 ].) As already pointed out, it cannot be ascertained from the original or amended complaints when respondent Lee made his two payments, whether one. was made at the time the subscription was taken, or whether one or both were made after the issuance of a permit to the members of the management committee. Whether one or both were made after or before the issuance of a permit to the companies nowhere appears. All that is alleged in the proposed amended complaint is that on August 6, 1930, a supplemental permit was issued to the companies (supplemental, however, only in the sense that it was supplemental to the permit originally and first issued to the members of the management committee); and that “defendant has heretofore paid to plaintiffs or one of them or to said committee, on account of the instalments of said agreement the first two instalments amounting to the sum of $5,032 and no more ...” It will be noted that this adds further uncertainty to the time of payment, since, as already pointed out, the original complaint alleges first payment “on or about May, 1931”. It is of the very essence of the principle enunciated in Moore v. Moffatt, supra, that assuming an illegal sub

It may be conceded as a general proposition that a litigant is entitled almost as a matter of right to amend a defective complaint at least once, and thus be given an opportunity to properly state a cause of action, if one can be alleged. If, however, it is apparent from the facts which are alleged in the original complaint, that no cause of action can be stated, and this situation is further verified by a proposed amended complaint which, in the teeth of general and special demurrers, fails to set out vital elements of a good cause of action, a trial court would be exercising an academic discretion on a worse than moot situation, if it did anything but sustain without leave and refuse to grant leave to amend. The sole remaining question, therefore, is whether the added cause of action in the proposed amended complaint added anything, either by stating a good cause of action or in suggesting that a good cause of action could be stated, even though, as it was presently framed, it did not state one. If the new cause of action did either of these things, permission should have been granted for its filing. If it did not, permission was properly refused. Since the new cause of action alleged in the proposed amended complaint is bottomed entirely upon the doctrine of the ease of Moore v. Moffatt, supra, it may not be amiss to set out the facts and doctrine of that case. The suit there was brought by a trustee in bankruptcy “to recover, under the trust fund theory, the difference between the sums paid on a subscription agreement for stock in the corporation and the par value of said stock, irrespective of the terms of the agreement”. Although it does not appear when the company was incorporated, it was stipulated that prior to incorporation, one Neeland and one Beggs entered into an agreement to purchase 96 shares of the capital stock of Admiral etc. Company at $25 per share, payable $400 on

In the Moffatt case, supra, the subscribers, after the issuance of a valid permit, directed the corporation, and the corporation pursuant to such direction, issued certificates of stock of the par value of $100 per share upon which they had paid only $25 per share. In the case at bar, there is no allegation that respondent' did anything after a permit was issued to the corporation. Furthermore, it appears affirmatively in the second cause of action of the proposed amended complaint that “no shares of stock whatsoever have been issued or delivered”. It also appears by reason of the evasive allegation in the proposed amended complaint, that respondent paid nothing after the issuance of the permit to the corporation in the instant case, as distinguished from the members of the management committee, but, on the contrary, denied that he was liable in any amount or for any further payments.

There are other distinctions which could be pointed out, but in view of the conclusion we have reached that the doctrine advanced by that case has no application here, irrespective of the distinctions alluded to save the essential one which is made by. the Moore case itself, we deem it unnecessary to make them.

An analysis of the case of Moore v. Moffatt, supra, and of the cases which have since followed, has convinced us that the doctrine of that case is, and is intended to be, an exception to the general rule, and applies only to those situations in

In Herkner v. Rubin, supra, the court says at pages 680, 681: “Plaintiff concedes that the statutory requirements were not met, but contends that the agreement having been valid when executed, as was found by the trial court, and deliveries of merchandise pursuant thereto having been made after the company was incorporated, this was tantamount to an election to adopt its terms and conditions as those of a new subscription agreement and that defendant is consequently liable. That such facts standing alone might have the effect claimed finds support in Moore v. Moffatt, 188 Cal. 1 [ 204

“The stock was not issued in conformity with the permit; and where such is the ease section 12 of the Corporate Securities Act declares the same to be void, and section 13 of the same act that any company so issuing its stock would be guilty of a public offense.

“Where a statute prohibits or attaches a penalty to the doing of an act the act is void; . . . and this is true of an issuance of stock in violation of the permit granted by the corporation commissioner . . . Moreover, the doctrines of estoppel by conduct and ratification have no application to a contract which violates an express mandate of the law. (Pollak v. Staunton, 210 Cal. 656 [ 293 Pac. 26 ].)” (See, also, In re American Aluminum Products Co., 15 Fed. (2d) 234; Horn v. Abts, 19 Fed. (2d) 350; In re Builder’s Finance Assn., Inc., 26 Fed. (2d) 123; Imperial Live Stock Co. v. Tracy, 208 Cal. 205 [ 281 Pac. 50 ]; Olds v. Simmons, supra.)

Appellants’ point that the Corporate Securities Act is unconstitutional need not be treated any further than to say that the law does not sustain such contention. (In re Leach, 215 Cal. 536 [ 12 Pac. (2d) 3 ]; People v. Eiseman, 78 Cal. App. 223 [ 248 Pac. 716 ]; In re Girard, 186 Cal. 718 [ 200 Pac. 593 ]; Agnew v. Daugherty, 189 Cal. 446 [ 209 Pac. 34 ]; Cecil B. De Mille Productions, Inc., v. Woolery, 61 Fed. (2d) 45.)

It has also been settled that upon facts such as in the case at bar the parties are not in pari delicto. (Tatterson v. Kehrlein, 88 Cal. App. 34 [ 263 Pac. 285 ]; Barrett v. Gore, 88 Cal. App. 372 [ 263 Pac. 564 ]; Smith v. Bach, 183 Cal. 259 [ 191 Pac. 14 ], and other cases heretofore cited.)

The good faith of the management committee is not questioned, but under the law actual good faith is of no import, if the law has not been complied with. (Boss v. Silent Drama Syndicate, 82 Cal. App. 109 , 115 [ 255 Pac. 225 ]; Commercial Bldg. Co. v. Levy, 108 Cal. App. 54 , 56 [ 290 Pac. 1048 ]). As said in Herkner v. Rubin, supra: “Irrespective of the integrity of the organizers or directors of the corporation the law must be obeyed.”

Conrey, P. J., and York, J., concurred.

A petition for a rehearing of this cause was denied by the District Court of Appeal on June 18, 1935, and an application by appellants to have the cause heard in the Supreme Court, after judgment in the District Court of Appeal, was denied by the Supreme Court on July 22, 1935.