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LESCH v. CHICAGO & EASTERN ILLINOIS RAILROAD CO.

February 15, 1968

IRVING M. LESCH, STANLEY BRIGHT AND PAUL J. KERN, PLAINTIFFS,
v.
CHICAGO & EASTERN ILLINOIS RAILROAD COMPANY, AN INDIANA CORPORATION, DEFENDANT.



The opinion of the court was delivered by: Napoli, District Judge.

MEMORANDUM OPINION

Plaintiffs are former owners of Class A preferred stock of the defendant Chicago & Eastern Illinois Railroad (C & EI). They bring this action on their own behalf, and ask that this be declared a class action, pursuant to Rule 23 of the Federal Rules of Civil Procedure, and that they be permitted to represent all other owners and former owners of Class A stock, on and after March 15, 1965. The relief sought is a payment of $2 per share to every owner and former owner of Class A stock who exchanged or redeemed his stock, pursuant to an exchange offer made on March 15, 1965, or pursuant to a subsequent call for redemption, made on July 31, 1965. The basis of the action is for misrepresentation as to the exchange offer, and for breach of contract as to the redemption. No allegations of violation of federal securities laws having been made, jurisdiction is based solely on diversity of citizenship.

On March 15, 1965, the C & EI made an exchange offer to its Class A shareholders, offering to exchange for each share of Class A stock tendered, common stock having a market value equal to par value ($40) of the Class A stock, plus accumulated earned and unpaid dividends, which the C & EI fixed at $6.00 per share. In computing the $6 per share figure, the C & EI did not consider that the 1959 dividend was earned and unpaid. As part of the offer, the C & EI submitted for stockholder consideration a Consolidated Balance Sheet of the Company and its wholly owned subsidiaries as of December 31, 1964, and a Consolidated Income Account and Statement of Consolidated Retained Income for the railroad and its wholly owned subsidiaries for the calendar years 1962, 1963, and 1964. Approximately one half of the 75,105 outstanding Class A shares were exchanged in response to the offer.

On July 31, 1965, the C & EI, pursuant to authority contained in the provisions of its Certificate of Incorporation, exercised its right to call all 39,712.25 remaining outstanding shares of Class A preferred for redemption, at a price of par plus cumulative accrued and unpaid dividends, computed by the railroad to amount to $7.17 per share at that time. The $7.17 figure was computed on the assumption that no 1959 dividend was earned. All three plaintiffs of record have apparently surrendered their shares of Class A stock for redemption, at a price of $47.17 per share.

On these facts, it is plaintiffs' contention that defendant's failure to account for the full earnings of its wholly owned subsidiary on a consolidated basis for the year 1959 was "in violation of accepted accounting principles and in violation of law." The same contention is made as to the railroad's failure to apply the refund on illegal real estate taxes and assessments for the year 1959. Plaintiffs thus contend that as to the exchange offer, the formula for computing past accrued earned and unpaid dividends should have recognized that the 1959 dividend was earned but unpaid; that the consolidated statements submitted with the exchange offer were somehow a representation that income is reported on a consolidated basis; and that consequently, due to the misrepresentations and improper accounting for 1959 earnings, those stockholders who exchanged their Class A shares for common shares, were deprived of an extra $2 per share. As to the redemption, plaintiffs contend that by refusing to properly recognize that a 1959 dividend was earned but unpaid, defendants redeemed the Class A stock for a price of $2 per share less than the price set by the Articles of Incorporation, par plus accrued and earned but unpaid dividends.

Both parties agree that there is no factual dispute. Cross-motions for summary judgment have been filed. The case has been fully briefed on the merits.

I. Class Action

Before reaching the merits, however, it will be necessary to consider certain preliminary procedural questions. First of all, although this purports to be a class action, neither party has asked that this court order, pursuant to Rule 23(c)(1), whether this action is properly so maintained. Nor have any steps been taken, pursant to Rule 23(c)(2), to direct notice to members of the class.

Plaintiffs ask that they be allowed to represent all former holders of Class A stock, on and after March 15, 1965. All plaintiffs of record refused the exchange offer of March 15, 1965, but were required by the call for redemption on July 31, 1965, to surrender their shares for cash. Thus, although no party of record is a member of the sub-class of former Class A shareholders who accepted the exchange offer, plaintiffs ask to represent both this group, and the group which surrendered their shares for redemption. Defendant objects to allowing these plaintiffs to represent that part of the class which exchanged their shares, pointing out that the interests of the two sub-classes may conflict.

It is apparent that each sub-class has an entirely different cause of action. The former shareholders who exchanged their shares for common stock on March 15, 1965, were under no compulsion to do so. They responded to an offer which they were free to reject. Consequently, their action, if it exists at all, is for misrepresentation, not for breach of the contract between the corporation and its preferred shareholders. The plaintiffs, on the other hand, and all other former Class A shareholders who surrendered their shares only after they were called for redemption by the railroad, under color of authority contained in the Articles of Incorporation, base their action on breach of the contract between the railroad and its Class A shareholders.

In short, the claims of the plaintiffs as representative parties are not typical of the claims of the entire class of former Class A shareholders, but are typical only of the claims of those former Class A shareholders whose shares were called for redemption. Accordingly, an order will be entered permitting these plaintiffs to represent only the former shareholders whose shares were called for redemption on July 31, 1965. With the class so defined, this court finds that the action is properly maintained as a class action.

II. Jurisdiction

The class action is merely a multiple joinder device, permitting the litigation, in one single action, of multiple claims involving similar or identical questions of law and fact, usually arising from the same set of operative facts. Its utility in a proper situation, where the court has jurisdiction of the parties and subject matter, cannot be gainsaid. Nevertheless, the determination of whether a class action is properly so maintained, must be made ...


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