Trembert v. Mott ( 1935 )

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[EDITORS' NOTE: THIS PAGE CONTAINS HEADNOTES. HEADNOTES ARE NOT AN OFFICIAL PRODUCT OF THE COURT, THEREFORE THEY ARE NOT DISPLAYED.]

[EDITORS' NOTE: THIS PAGE CONTAINS HEADNOTES. HEADNOTES ARE NOT AN OFFICIAL PRODUCT OF THE COURT, THEREFORE THEY ARE NOT DISPLAYED.] For some years plaintiff owned stock in the Union Trust Savings Bank of Flint, which she had inherited from her former husband, once a director of the institution. May 29, 1929, the bank merged with the Industrial Savings Bank into the Union Industrial Trust Savings Bank (familiarly called Union Industrial Bank), and plaintiff exchanged her stock for shares in the latter.

In September an arrangement was made for exchange of the stock of the Union Industrial Bank for shares in the Union Commerce Corporation, a holding company, with headquarters at Detroit, at a ratio of five for one. Plaintiff delivered her certificates September 27, 1929, and interim certificates for exchanged stock in the Union Commerce Corporation were transmitted to and held in possession of an officer of the Union Industrial Bank. Late in 1929 or early in 1930 the Union Commerce Corporation merged into the Guardian Detroit Union Group, Inc., which we will call the Guardian Group. It was a holding company of bank and trust company shares. Plaintiff received stock in the Guardian Group for her Union Industrial shares.

At the time of the merger of the two Flint banks in May, no audit of either was made. However, an examining committee was appointed. The committee did not get seriously to work until October. It discovered items which caused it to make inquiries and an astounding thing happened. October 31st, officers and employees confessed that 12 of them, representing the whole executive force of the bank except one officer, had been engaged in speculation with the old and new bank funds, and their shortage was about $800,000. In a week, the shortage was found to be $3,581,000. Thereafter an audit of the books by expert accountants, which required nearly a year to complete, disclosed that defalcations had occurred for a long time in the Industrial Savings Bank, aggregating about $21,000,000, from January 1, 1928, to October 31, 1929, the net shortage was $930,000 on May 29, 1929, when the Flint banks were merged, was about $1,800,000 on September 27th, when plaintiff deposited her stock for exchange for shares of the Union Commerce Corporation, and the balance of about $1,700,000 occurred thereafter. The record indicates only the general method of operation, not the specific transactions. Sometimes moneys withdrawn to make purchase of stock were represented by cash item slips, which were taken out on sale of the stock, and sometimes forged notes were used to cover the defalcations.

Defendant Mott had been president and director of the Industrial Savings Bank for several years, to January 1, 1929. In 1929 he was director and chairman of the board. He was president and director of the Union Industrial Bank. When the disclosures of defalcations were made, Mr. Mott saved the Union Industrial Bank by paying into it $3,581,000, having borrowed it, or some, for that purpose from the Guardian Detroit Bank, later merged into defendant Guardian National Bank of Commerce. The other directors agreed to reimburse him to the extent of 50 per cent. of their stock.

Some time later a call was sent to the stockholders to meet on November 29, 1929, to consider how they should make proportionate contribution to reimburse Mr. Mott. The meeting was called to order by him and, after a few formal remarks to the effect that each stockholder must determine his own course, he called Mr. Cook, attorney for the bank, to preside. Mr. Cook outlined the situation, stating the amount of the shortage at $3,581,000, gave a general resumé of how the peculations had occurred, and said there had been a small defalcation before the merger of the Flint banks, more between then and affiliation with the Union Commerce Corporation, and the greater part thereafter. He then turned the meeting over to the stockholders, invited remarks and questions, and a general discussion followed, most of the speakers lauding Mr. Mott and urging his reimbursement, although one advocated delay until the defaulting officers had been brought to trial and the full situation had been disclosed. It was made plain that the obligation to reimburse Mr. Mott was not legal. It was argued by several speakers as a moral obligation. The proposition was presented, and adopted without dissent, that the stockholders contribute 25 per cent. of their Union Commerce shares, either in stock or in cash at $135 per share. An agreement to that effect was read to the stockholders and, at the end of the meeting, signed by them. The agreement purports to be a contract by the bank, Mott and the contributors, but, at the trial, it was discovered that neither the bank nor Mott had signed it.

Thereafter, a committee was appointed to recover from the offenders, and a large amount was finally retrieved. Plaintiff received $2,379.75 therefrom, which was credited on her note in February, 1931.

Under the arrangement the stockholders had until June 1, 1930, to make contribution. June 2, 1930, plaintiff executed her note for $27,127.50, payable to the Guardian Detroit Bank. She delivered it to a member of the recovery committee, who forwarded it to the bank with the statement that plaintiff wanted to exercise the option of paying cash instead of stock. The proceeds were credited upon the note of Mr. Mott. Shortly thereafter two certificates of plaintiff's stock in the Guardian Group were issued, one for 362 shares, retained by the bank as security for the note, and one for 265 shares delivered to plaintiff. The Guardian Group stock at that time was valuable and plaintiff could have sold at a large profit. Twenty-five per cent. of her stock would have more than paid the note. She and many others believed the stock would appreciate greatly in price and she refused to sell at $132 per share a little later.

Plaintiff renewed the note five times at 90-day periods. She paid sums on principal and interest besides the credit from the recovery. September 1, 1931, the bank wrote her to the effect that it had agreed to carry the note, as collateralled, for only a year, that by decrease of the market value of the stock the note was undercollateralled and it asked for more security. Thereupon, plaintiff consulted an attorney. The attorney sent a renewal note for $22,000 but with notice that it was without prejudice to plaintiff's rights. Further renewals and payment were refused.

The looting of the bank stunned the city, not only because of the amount purloined but because of the large number of highly respected citizens engaged in the defalcations. Mr. Mott's prompt action avoided closing the bank and complete loss to the stockholders. The officers at once determined upon a policy of frankness and disclosure. Full information was given to the press. The confessions of the defaulters were published and given detailed publicity. The manner in which they manipulated the books was set out. Some 58 articles were published in the local newspapers. Plaintiff was interested and read the accounts although she said she did not read all of them in full.

Plaintiff commenced this suit July 1, 1932. Both the Guardian Group and Union Industrial Bank are in receivership. The Guardian Group has been held a lawful corporation.Simons v. Groesbeck, 268 Mich. 495. These facts dispose of some of the original issues. The remaining prayer is for rescission of the contribution contract and damages against Mott for mistake, fraud and negligence and for cancellation of the note and recovery of moneys paid thereon, as against the Guardian National Bank of Commerce. The court entered decree dismissing the bill.

Plaintiff treats ignorance of facts as mistake of fact, justifying rescission. She cites no authority and we know of no principle which will sustain the remedy in the absence of mutual mistake or unilateral mistake induced by fraud.

Plaintiff claims Mott was legally liable for the defalcations by reason of negligence in the performance of his duty as an officer and director of the bank and she has evolved a theory that, by way of subrogation to the original right of action of the bank against him for such negligence, she may recover. The contention needs little discussion. All damage to the bank and its stockholders from such negligence, if any, was repaired by Mott's payment of the loss. Plaintiff's action is not for the negligence but for concealment of it. It is part of her claim of fraud.

Plaintiff never talked with Mott about the matter and there is no claim of direct misrepresentation of fact. Her case is that he induced her to sign the contribution agreement and note by concealment of material facts, among which was his own legal liability for the defalcations by reason of his negligence.

Plaintiff's testimony begins with a categorical denial of knowledge of many facts connected with the transaction which had been given wide publicity. Most of them require no notice. We will confine discussion to those which, in their brief, her counsel have set out as the most important and on concealment of which her claim of fraud must rest, i. e., that when she executed the agreement and signed the note she did not know there had been a shortage in the Industrial Savings Bank at the time of the merger nor its size; she did not know that the defalcations amounted to $21,000,000 from January 1, 1928, to October, 1929; she did not know Mr. Mott, as president and chairman of the board and director of the Industrial Savings Bank, had attended only two out of 175 meetings of the board before the merger and as president and director of the Union Industrial Bank had attended one out of 14; she did not know Mr. Mott was legally liable for the loss because of his negligence. And, urged as a mistake of fact, she did not know the contract of contribution had not been signed by Mott and the bank and was not binding on her when she gave the note.

Prior to the meeting of November 29th, newspaper articles had given rather full accounts of the defalcations and themodus operandi of the defaulters, stating that the peculatious had started in 1926, and containing criticism of the officers of the bank for negligence. Plaintiff read or scanned most of the articles but would identify none. However, she did not attend the meeting in total ignorance of the situation. She testified:

"I had heard of the stock speculations by the officers and employees, and that a loss of three and a half million had been sustained by the bank. I read most of what was published in the Flint Daily Journal on that. I knew when I signed Exhibit 2, I was signing up for part of the defalcations of three and a half million dollars and that these defalcations had been brought about by stock speculations by the officers and employees. I knew the money had been taken and that there must have been considerable laxity around the bank to suffer that loss and considerable negligence of the people around the bank in permitting that loss, after I read the paper. I knew that before I went to the meeting on November 29th."

On her way to the meeting plaintiff was informed by a lawyer, a partner of Mr. Cook, that she had no obligation to make contribution. She said that when she was about to sign she asked Mr. Cook if she had to do so and he said all stockholders had to sign. It does not appear that Mr. Mott heard such statement. Mr. Cook denied the conversation. The court gave it no weight in determination of the case, nor do we. Plaintiff had forgotten a great many things said at the meeting, but the lack of legal liability on the part of stockholders was emphasized. Plaintiff stated that her agreement to contribute was voluntary.

She said she did not hear Mr. Cook say that part of the defalcation had occurred before the merger.

The purpose and character of the meeting raised a duty on the part of both Mr. Mott and the plaintiff. Mott was obligated to permit no misrepresentation or concealment of material facts. Plaintiff was bound to listen. The fact was disclosed that part of the defalcation had occurred before the merger. As plaintiff claims she did not hear it, she was not misled by the statement that such defalcation was small. It does not appear that the amount was then known nor discovered until the subsequent audit.

Under the circumstances, and because reimbursement of Mott was impressed as a moral obligation of the stockholders, his legal liability for the loss, or his conduct as a director from which his legal liability could be estimated, was a material fact which the stockholders were entitled to know as a basis for their own action. The other basic fact was the amount of the defalcation paid by him. The details were secondary. They were described in general. Neither Mr. Mott nor the speakers could know what further specific information a stockholder desired. If plaintiff had heard the statement that a defalcation had occurred before the merger and wished to know its size, it would have been her duty to inquire. This is not a violation of the rule that a defrauded party has no duty of diligence to discover fraud perpetrated. He cannot wilfully close his mind to information easily available.

Plaintiff, however, insists that it was the duty of the directors to know the amount of the total defalcation and shortages at different times and disclose them at the meeting. It does not appear they could have ascertained them before the meeting. It is a much more difficult matter to rebalance books as of a prior date and audit them than currently.

In any event, plaintiff does not indicate in what respect knowledge of the total defalcations or of the shortage at a particular time could have influenced her action. Nor can we see what difference it would have made. And the record indicates that plaintiff was not interested in the details. She testified:

"I made no inquiry after the meeting of November 29th, whether the money had been taken in cash, securities or by kiting drafts or speculation in stocks. I never asked anyone any time after November 29th until June, 1930, anything about the manner in which these abstractions had been made. I was satisfied that the three and one-half million dollars had been taken by these men. I signed the agreement to pledge my proportionate share. That was the obligation I took, as I understand it.

"Q. And you did not care. You did not make any claim up to the time you paid your note, how this money had been taken by these men?

"A. It had been taken; that is enough."

We discover no fraud in respect of the time and size of the defalcations.

Was defendant Mott legally liable for the defalcation on the ground of negligence? There was no showing that as president or chairman of the board he had any other power or duty than to preside at meetings of the board of directors. Consequently his liability must be tested by the duty of a director.

The general rule is that an officer or director of a bank must exercise the same degree of fidelity and care which an ordinarily careful man would use in his own affairs of like magnitude and importance. Commercial Bank of Bay City v.Chatfield, 121 Mich. 641; Martin v. Hardy, 251 Mich. 413; 1 Michie on Banks and Banking, p. 124. The use of the term "in his own affairs" in the rule has been criticized, 2 A.L.R. 867, note, as in effect requiring a director to give his whole time to the affairs of the bank. It has not been so used by this court.

The rule does not impose liability on a mere showing of defalcation or loss nor for mere failure of a director to attend board meetings. Martin v. Hardy, supra. Nor are the duties of a director fixed by rule of thumb. They must be found from the statutes and corporate by-laws, from generally accepted practice of the business, from the custom of the individual bank, and the circumstances of the particular case.

A bank director need not be an expert banker, bookkeeper or accountant. He is not required to oversee individual transactions, keep the books, check or audit them, spy on the officers nor devote himself to details. He is entitled to intrust to officers and employees the routine business of the bank. It is an accepted thing that directors of banks may be business men whose principal activities are elsewhere and whose banking activities cannot be more than customary general supervision. The board may act through committees and accept their findings in the absence of circumstances casting doubt upon them. On the other hand the director must have a general knowledge of the financial condition of the institution, its system of management and daily workings and exercise a reasonable degree of oversight and supervision of the bank's affairs. The latter requires care in the selection of officers, providing for audits and examinations and reports as reasonably seem necessary. The director cannot disregard matters presented to the board of directors nor a failure to present what should be shown nor close his eyes to suspicious conduct of officers or employees nor conduct which would put an ordinarily careful person on guard and cause him to inquire. 1 Michie on Banks and Banking, p. 126.

Plaintiff had the burden of proof of negligence. There was no showing that the board of directors did not carefully select the officers, and require reasonable inspections, audits and reports, nor that they were not had. Presumably the examinations by the directors required by law were made. Presumably the semiannual examinations by trained men of the State banking department, cognizant of methods of misappropriation of funds and on guard, were had. In fact official examination had been made in June, 1929. No suspicious circumstances were found by any of the examiners. Nothing came to the attention of the board which caused suspicion. A director who was an officer of an allied trust company, working in an adjoining office and was in daily touch with the bank, saw nothing amiss. After the merger, Mr. Mott was at the bank, consulting the officers frequently. Experience has demonstrated the possibility of defalcation by a single person over a period of years. Twelve executives, working together, are able to hide their tracks. They did so well that, even with their assistance, it took expert accountants nearly a year to trace the ramifications of their operations. The testimony regarding the defalcations was quite general. There was no showing of specific operation which would indicate that a director, either in the exercise of his legal duties or in attempting a more detailed examination, would have been likely to have discovered irregularities in the cash items or notes. Unless Mr. Mott disregarded suspicious circumstances, the record fails to show a breach of duty.

Plaintiff names specific circumstances which she claims should have put Mott on guard; that cash items were permitted for him and others and a bad example set; a private wire to brokerage houses was established in the bank; and an officer built a house beyond his apparent means.

There were two Mott cash item transactions in 1926. Apparently he had a standing order to buy stock of the bank and the bank bought it in his absence, carried the cost as a cash item until he arrived and he paid it. It is not shown that he authorized or knew of the manner in which the transaction was carried. There was nothing wrong about it, although it is not commendable banking. In any event, Mott could hardly be held liable for peculations merely because his valid transaction may have suggested to the defaulters a method of operation and of which influence there is no proof.

It does not appear that Mr. Mott knew of the private brokerage wires nor was there evidence that they are not customary in banks handling collateral loans. We cannot guess that they were. They aroused no suspicion in the minds of directors constantly about the bank. As to the house, there was no showing that defendant knew the officer was building it or his financial condition. The record does not show the cost of the house nor the officer's salary.

A large number of authorities upon the liability of directors for peculations of officers may be found collected in 2 A.L.R. 867, note. See, also, Bates v. Dresser, 251 U.S. 524 (40 Sup. Ct. 247). None has been found which indicates that the proof at bar shows actionable negligence on the part of defendant Mott. Consequently, there was no fraud in failing to disclose to plaintiff what did not exist, i. e., that he was legally liable for the defalcations.

Plaintiff contends the contribution agreement was void under the statute of frauds, 3 Comp. Laws 1929, § 13417, because it was a promise to answer for the default of another and was not signed by Mott and the bank and also because the parties contemplated it should not be effective until signed by all of them. She asks rescission of the contract and note on the ground that the note was executed under mistake of fact as to the binding character of the contract.

The agreement was not to answer for the default of another but was for a voluntary contribution. It was signed by the party to be charged (plaintiff). There was no understanding as to signing. Plaintiff exhibited no concern as to its condition. If it had any effect upon her signing the note, her negligence in failing to discover the condition precludes rescission. 9 C. J. p. 1169. The contract was made mutual, and cannot be rescinded, by partial performance which, so far as indicated by the record, was substantially full performance. 9 C. J. p. 1195. And there was no showing the bank had notice or knowledge of the infirmity now claimed. First National Bank Trust Co. v. Wuerth, 262 Mich. 691.

Decree affirmed, with costs.

POTTER, C.J., and NELSON SHARPE, NORTH, WIEST, BUTZEL, BUSHNELL, and EDWARD M. SHARPE, JJ., concurred.