APPEAL from the Appellate Court for the first district;
heard in that court on appeal from the Circuit Court of Cook
County; the Hon. JOHN T. DEMPSEY, Judge, presiding.
MR. JUSTICE BRISTOW DELIVERED THE OPINION OF THE COURT:
Rehearing denied May 20, 1960.
Plaintiffs Harold and Max Shlensky, suing on behalf of themselves and other stockholders of the South Parkway Building Corporation, have been allowed by this court to appeal from an Appellate Court judgment reversing the chancellor's decree ordering defendants, as directors of the corporation, to give an accounting for the benefit of the stockholders.
This appeal involves a determination of Illinois law respecting the obligation of corporate directors in transactions between corporations with interlocking directorates, and poses the question whether defendants have infringed this law in any of the challenged transactions.
Although the facts and inferences in this extensive record are controverted, it appears that plaintiffs are minority stockholders, and defendants Englestein, Mackie, Bernstein and Peyla are directors of the South Parkway Building Corporation. (Although the death of defendant Englestein in 1959, during the pendency of this appeal, has been suggested to this court and his executor has been substituted as a proper party herein, Englestein's name has been referred to as though he were still a party defendant, for purposes of simplification.) The main asset of the corporation, and the subject of this controversy, is a 3-story corner commercial building on a lot with a frontage of 289 feet on 47th Street and 400 feet on South Parkway, in Chicago.
A brief review of the history of the property may cast light on the challenged transactions. The building was constructed in 1928 on property owned by Harry Englestein. There was a mortgage foreclosure and reorganization proceedings in the Federal court from 1931 to 1935, during which Harold Townsend was in possession of the property as trustee in bankruptcy, with the legal title held in the South Center Building Corporation. The reorganization was completed in 1935, and under the plan the South Parkway Building Corporation (herein referred to as the Building Corporation) became the legal owner of the premises, and the former bondholders became shareholders of this corporation.
At that time there was in force a five-year lease, executed in 1933 by Townsend as trustee, to the South Center Department Store, hereinafter referred to as the Store, at a fixed rent of $300 per month and certain designated percentage rents based on volume of sales. The Store had occupied space in the building since it was constructed, and it is undisputed that all of its stock was owned by Englestein. In 1936 the Building Corporation executed a new lease to the Store for a term of 10 years, from June 1, 1936, to May 31, 1946, with a fixed rent of $400 per month, and the following percentage rents for the last eight years of the lease: 1 1/2% on sales from $600,000 to $800,000; 3% on sales from $800,000 to $1,000,000; and 2% on sales over $1,000,000.
On August 21, 1940, the lease was extended by a supplemental agreement for an additional six years, from June 1, 1946, to May 31, 1952, at the same rental, and with an option for a further four-year extension beyond June 1, 1952, upon terms to be agreed upon in the future. The option was included since Englestein had requested a 10-year extension at that time. However, in 1946 the Store requested, and secured, from the Building Corporation a 15-year extension of its lease on the same terms.
While plaintiffs submitted that the terms of this Store lease, executed at Englestein's request, gave preferential treatment to the Store at the expense of the Building Corporation, plaintiffs' first challenged transaction involved the action of the board of the Building Corporation taken on March 18, 1948. At that meeting Englestein told the board that the Store had made large expenditures for new fixtures, advertising and promotion; that a larger amount of working capital was needed by the Store, and that it was willing to sell to the Building Corporation its old furniture, fixtures and equipment for $100,000. The board of the Building Corporation, composed of Englestein, Mackie, Bernstein, Peyla, Teter and Townsend, thereupon authorized the payment of $100,000 to the Store, and by resolution tied it to certain lease changes to be made in the future. Director Sturm resigned in protest of the purchase. Of the six directors approving the transaction, Bernstein was Englestein's attorney and attorney for the Store; Mackie was an employee of various companies in which Englestein has been interested since 1925, and a director of the Store and of Harry M. Englestein & Company; and Englestein was president, treasurer, director and owner of the Store, as well as director and managing agent of the Building Corporation. Peyla lived and conducted his securities business in Joliet, Illinois, and according to defendants' admission, relied on Englestein for guidance in the conduct of the business of the Building Corporation.
On May 4, 1948, this same board, with the exception of Townsend, who was out of the city at the time and allegedly informed by telephone, modified the Store's lease. The fixed rent was increased to $5,000 per annum, but $24,316 of accrued rent owed by the Store to the Building Corporation was waived, and the percentage rents were substantially reduced, so that only 1 1/2% on sales over $1,100,000 was payable. The board eliminated entirely the percentage rents of 1 1/2% on sales from $600,000 to $800,000; the 3% on sales from $800,000 to $1,000,000; and the 2% on sales over $1,000,000.
In connection with the challenged transaction with the Union Amusement Company on May 10, 1948, it appears that this corporation, hereinafter referred to as Union, was also owned by Englestein, and had occupied the ballroom space, consisting of approximately 20,000 square feet in the building, since 1929. In 1936 the board of directors of the Building Corporation leased the space to the Union Amusement Company for 10 years, from January 1, 1937, to December 31, 1946, at a rental of $250 per month, with additional percentage rents, and all expenses of heating and servicing to be paid by Union. On August 29, 1946, the lease was extended for another 10-year period, and the minimum rental was increased to $300 per month. Union was then paying approximately $.39 per square foot.
There was some evidence that efforts had been made to rent the ballroom, and the board of the Building Corporation, at the suggestion of a special committee, authorized $35,000 to make necessary improvements. Before the work was completed, however, plaintiffs claim that Englestein suggested to the board of the Building Corporation in May, 1948, that the State of Illinois, which occupied the second, and part of the third floors of the building, and was paying $1.50 per square foot, move downstairs to the ballroom, paying its higher rental there, and that Union share in that higher rental. Defendants, however, contend that it was the State of Illinois which suggested the move, so that all of its offices would be on the same floor, and that it threatened to move otherwise.
The board of the Building Corporation on May 10, 1948, approved a five-year lease with the State of Illinois, whereby the State would pay an annual rental of $45,000 for the ballroom space, which was to be converted into offices, and the Building Corporation would be required to furnish heating, decorating, remodeling, janitor and other services. The board also executed a separate rent participation agreement with Union, whereby its lease was subordinated in return for one third of the net increase in rentals from the transaction, with deductions allowed only for the remodeling expenses. Thus, Union's one-third share of the rents was to be computed without deductions for the new servicing and heating obligations undertaken by the Building Corporation under the new lease. Those costs were to be borne solely by the Building Corporation out of its share of the rents.
In support of the validity of the transaction, defendants point out that it was given in consideration of the surrender of Union's lease and that its terms were fair and reasonable, since, according to their computations, the Building Corporation received $105,368.83 as its share of the additional rent from October 31, 1948, to December 31, 1952, and the Union received $52,684.26 for the same period.
Plaintiffs, however, offered testimony of a certified public accountant showing that in effect Union is receiving close to 50% of the rent increase as a minimum, and 82% as a maximum, since servicing costs for the 20,000 square feet of $1.89 per square foot, according to the cost computation Mackie supplied the Government, are not deducted before computing Union's share and are taken solely out of the Building Corporation's share. Plaintiffs also submitted evidence that under the terms of this agreement Union received some $89,433 up to 1954. Moreover, the most Union ever paid for occupying the space was $9,835, whereas under the participation agreement, Union (and now its assignee Chillo Corporation) received $20,205 as its share of the 1954 rent just for not occupying the space.
In connection with this payment, plaintiffs offered testimony that the Building Corporation's financial report of 1954 listed a payment of $20,205.23 to Chillo Corporation, and when plaintiffs asked the board, consisting of Englestein, Mackie, Bernstein and Peyla, at the stockholders' meeting, who this corporation was, defendant Peyla said he did not know who the officers and directors were, and the other defendants sat mute. Search of the State corporate records, however, revealed that Englestein was president and treasurer of Chillo, Mackie was secretary, and its directors were Englestein, Mackie and Aleck Bernstein.
The five Building Corporation directors who were present and voted to give Union this share of the rentals included Englestein, the director and owner of Union; Mackie, the president of Union; and Bernstein, counsel for Union. Moreover, this rent participation agreement was authorized at a time when Union was several months in default on its rent payments.
Plaintiffs have also challenged defendants' purchase for the Building Corporation of a vacant lot adjoining the building on the south, at a price of $100,000, from the 4753 South Parkway Corporation, referred to hereinafter as the 4753 Corporation. The lot had a frontage of 96 feet and a depth of 289 feet. It was owned and held in Englestein's name in 1926, until shortly before the reorganization proceedings of the Building Corporation, when Englestein conveyed it to the 4753 Corporation in return for all of that corporation's stock, and some 20 years later this 4753 Corporation sold it to the Building Corporation. The president and treasurer of the 4753 Corporation was Englestein, Mackie was its secretary, and Lippert was its vice-president. These men, together with Peyla and Townsend, acted for the board of the Building Corporation in approving this purchase. Their resolution of February 17, 1949, stated that no action should be taken in connection with this purchase until written approval of directors Teter and Bernstein was received. Although Mackie testified that no written approval was received, after the proofs were closed defendants offered undated letters of approval from Teter and Bernstein sent to defendants' counsel, Vollers.
The testimony of qualified real-estate appraisers on the value of this property was sharply conflicting. Plaintiffs' appraiser valued it at $45,800, as the site of a one-story commercial building; and defendants' appraiser valued it at $103,000 and at $150,000, based on its operation as a parking lot for hire. The evidence shows, however, that the lot was not operated that way, but rather as a free parking lot for the benefit of the officers and employees of the building, its tenants, and their customers. According to plaintiffs' evidence, the cost for the raw land was $4,500 per customer car; whereas defendants contended it was $1,613 per car. Plaintiffs also offered evidence that Wieboldt's was able to buy land and also build a parking garage for a similar purpose, for a combined cost of $1,200 per car in Oak Park, and ...