CORPORATE TORT PUTS SPOTLIGHT ON ROLE OF LEADERS

June 28, 2004

Steven P. Garmisa
Hoey & Farina Attorney
garmisa@hoeyfarina.com
1-888-425-1212

When breach of contract by a corporation drifts into the tort of conversion (such as when a company fails to return leased property), corporate officials can wind up as defendants.

Analyzing a conversion claim against a majority shareholder, however, the Illinois Appellate Court reversed a judgment against the defendant, because of the timing of his participation in the corporation's tort. Besides which, he had solid defenses based on qualified privilege and advice of counsel. IOS Capital Inc. v. Phoenix Printing Inc., 2004 WL 963939 (4th Dist., April 22).

Colortech stopped paying for photocopiers it leased from IKON Capital Resources, which is referred to as IOS. According to Colortech, IOS supposedly failed to maintain and service the machines. But Colortech failed to hand over the copiers when demanded by IOS.

Robert Russell was majority owner of Colortech, and a member of its three-person board of directors. There was a bench trial on a conversion claim against Russell in Sangamon County, and the judge ordered Russell to pay $139,457.

The Appellate Court reversed. Here are some highlights of Justice John W. Turner's opinion (with various omissions not noted in the quoted text):

"Conversion is the unauthorized deprivation of property from a person entitled to its possession. To prove conversion, the plaintiff must establish (1) a right in the property, (2) a right to immediate possession, (3) wrongful control by the defendant and (4) a demand for possession. When the trial court determines a plaintiff has proved the elements of conversion, we will reverse only when the decision is against the manifest weight of the evidence.

"IOS presented evidence at trial it had a right in the copiers. The agreement indicated Colortech was leasing the copiers from IOS. Legener [the president of Colortech] identified the agreement as a lease between Colortech and IOS for two black-and-white copiers. Further, in its initial answer, Colortech admitted IOS was the 'sole and lawful owner' of the copiers.

"IOS also showed it had a right to immediate control. Legener acknowledged the copiers were subject to the agreement. The agreement stated a failure to make payments constituted a default, which allowed IOS to either repossess the copiers or demand return of the copiers to IOS at Colortech's expense.

"Legener acknowledged Colortech was consistently late in making payments. IOS introduced evidence showing Colortech defaulted on the agreement and had not made a payment since May 1, 2000. In addition, Legener identified a letter received from IOS indicating notice of default.

"IOS also presented sufficient evidence of wrongful control. Colortech made no payments on the agreement after May 1, 2000, yet retained the copiers. IOS attempted to enforce its rights under the agreement's default provisions to retake the copiers but claims Legener and Colortech ignored the demands.

"In October 2000, Russell discovered Colortech had stopped paying on the IOS agreement. Russell told Legener he should work out a deal with IOS, but no deal ever transpired.

"Colortech was served with summons on Dec. 5, 2000, and Russell was aware of this fact. He later met with his attorneys, who advised him not to return the copiers. Russell admitted he was not obligated to take their advice and he was the ultimate decision-maker.
"Russell instructed Legener not to return the copiers, even though he knew Colortech had stopped making payments under the agreement. Legener did not return the copiers. Russell admitted keeping the copiers without paying for them was wrong. Under these facts, the trial court could reasonably determine Colortech exercised unauthorized control over the copiers.

"IOS also showed it made a demand for the copiers. IOS made several payment demands on Colortech. Further, IOS made multiple demands for the copiers themselves, including one on Nov. 22, 2000. In addition, Colortech admitted in its initial answer IOS demanded surrender and delivery of the copiers to IOS and Colortech failed and refused to do so.

"The trial court's finding IOS proved all elements of conversion is not against the manifest weight of the evidence."

Participation

"Russell argues that because demand was not made on him personally, he cannot be guilty of conversion," Turner noted. "However, the question is not whether each element is satisfied as to him but whether he actively participated in the tort.

"Corporate officers are generally not liable for corporate obligations. However, they are liable for any tort of the corporation in which they participate.

"In National Acceptance Co. of America v. Pintura Corp., 94 Ill.App.3d 703, 706 (1981), the court recognized the need to protect corporate officers from individual contractual liability. However, it distinguished situations involving breach of contract from those involving torts.

"A corporate officer who participates in a tort by the corporation may be liable in any one of a number of tort categories, including intentional interference with a contract and conversion. '[A] corporate officer's individual liability for conversion committed by him personally in behalf of the corporation is established in the same manner as his liability for any other tort; by proof of active participation in the conversion.' National Acceptance Co., 94 Ill.App.3d at 707. Therefore, an officer or director is liable in conversion only where he actively participates therein.

"Here, Russell knew Colortech was retaining IOS's copiers, even though Colortech had since stopped making payments on the agreement and IOS considered Colortech to be in default. The record further shows he knew IOS had made demands for the copiers. However, knowledge of the corporation's tort is not enough to hold a corporate officer liable thereunder.

"Acting on the advice of counsel, Russell decided Colortech would not return the copiers to IOS. He stated the decision was his to make. He participated in the conversion from this point.

"However, any participation in the tort does not necessarily subject an officer or director to individual liability. Personal liability for actions taken on behalf of the corporation attaches only when the officer or director is alleged to have taken part in the wrongful act initially giving rise to the corporation's liability.

"Here, IOS contends that the conversion of the copiers began in June 2000, when Colortech stopped making payments on the agreement. According to IOS, this would be the date on which Colortech became liable for conversion.

"IOS acknowledges the act giving rise to Russell's liability is the order he gave to retain the copiers after speaking with his attorneys. The record contains no evidence Russell gave that order until sometime between Dec. 5, 2000, and March 2001. Therefore, his participation in the conversion was not that which initially gave rise to the corporation's liability.

"Moreover, the situation here starkly differs from the situation in National Acceptance Co., where the Appellate Court concluded a corporate officer was liable for conversion by signing checks for funds due an assignee corporation and depositing them into his own company's account without authorization from the assignee corporation. The trial court erred here in concluding Russell's participation in the conversion subjected him to liability thereunder."
Qualified Privilege

"Even if Russell's participation had been sufficient to find him liable for conversion," Turner reasoned, "if the conduct was privileged or justified, Russell is not liable in tort.

"Courts will recognize a privilege in cases involving a contract where a defendant was acting to protect an interest the law deems to be of equal or greater value than a plaintiff's contractual rights. Under certain circumstances, a third party may be privileged to perform an act that brings about a breach of contract between other parties. The question becomes whether such a privilege applies where a plaintiff advances the alternative theory of conversion to recover damages due for breach of contract.

"Under Illinois law, corporate officers and directors owe undivided and unselfish loyalty to the corporation. They perform functions for which freedom of action is essential to act in the best interests of the corporation. Because officers and directors owe fiduciary duties to the corporation and its shareholders, their freedom of action aimed toward corporate benefit should not be curtailed by undue fear of liability. Directors and officers must be free to act in pursuit of what they faithfully believe to be in their corporation's best interests.

"While this case is framed as a tort action, the copiers were subject to a contract between IOS and Colortech. We find Illinois case law dealing with interference with contracts instructive as to the instant action because in both circumstances whether an officer or director can authorize a breach of contract by the corporation is a primary consideration.

"Illinois courts recognize a privilege for corporate officers and directors to use their business judgment and discretion on behalf of the corporation. The duty of corporate officers and directors to corporate shareholders outweighs any duty they may have to parties contracting with the corporation.

"The cases cited by plaintiff holding a corporate officer or director liable for intentional interference with a contract or conversion do not control here because they do not address the applicability of a privilege, which would preclude a finding of liability under the active-participation doctrine.

"For example, while the National Acceptance Co. court concluded a corporate officer may be liable for intentionally interfering with a contract under such theory, the Supreme Court of Illinois has recognized a qualified privilege in cases involving intentional interference with contractual relations. Corporate officers interfering in corporate contracts and acting in accordance with their business judgment and discretion lack the requisite 'malice' and therefore are not liable in tort.

"We conclude the policies underlying a privilege in those cases apply where a corporate director authorizes conversion of a chattel subject to a corporate contract for benefit of the corporation. Where the creditor's dispute is with the corporation for breach of contract, to allow corporate officers and directors to be sued and to be personally liable in tort would chill corporate officials from performing their duties and would be contrary to the limited liability accorded incorporation.

"Further, corporate officers and directors are not generally liable for corporate debts. Similar to the contractual-interference cases, holding an officer or director liable for conversion of a chattel subject to a contract would impose liability for corporate debts under the contract.

"We therefore find Russell's actions in this case were conditionally privileged. A contrary result would require corporate officials to predict whether a party might bring any number of breach- of-contract actions as a tort claim. The danger of personal liability would create great hesitancy to act, even if in the best interests of the corporation.

"Having determined Russell's actions were privileged, IOS must show Russell either acted without justification or maliciously. This it failed to do. IOS fails to point to, nor can we find, any evidence in the record showing Russell acted in any manner outside the scope of his business judgment or intended by his acts to purposefully harm IOS.

"The record does show Russell told Legener to attempt to return the copiers up until the point Russell met with his attorneys. This conclusion is supported by Legener, IOS's own witness. Russell's attorneys advised him to retain the copiers for evidentiary purposes because a question existed whether IOS had breached the contract by failing to provide maintenance and support to keep the copiers in proper working order. Plaintiff presented no evidence to the contrary.

"Notwithstanding Colortech's failure to pay rent for the copiers, because a dispute existed as to whether the copiers were operable and whether IOS had breached its contractual obligations, Russell's decision to retain the copiers was within the scope of his authority and business judgment. He was entitled to conclude retaining the copiers, on advice of counsel, was in the best interests of Colortech."

Advice of Counsel

"Moreover," Turner explained, "the record shows Russell relied solely on the advice of legal counsel regarding a substantial legal problem, such that he needed the advice to resolve it. An officer or director of a corporation should not be held liable for the performance of his duties if performed in good faith and in a manner he reasonably believes to be in the best interests of the corporation.

"The reasonableness of acting on advice of legal counsel applies in the corporate context as in other areas of the law. While an officer or director may not blindly accept counsel's advice to avoid liability, he may rely on such advice when he does not have knowledge of his actions causing such reliance to be unwarranted.

"Here, Russell was not an attorney, nor was he actively involved in the business of Colortech. The only evidence at trial showed he consistently directed Legener to turn over the copiers until the point at which IOS brought suit. He then consulted legal counsel, who advised him not to turn over the copiers until a third-party examination could be conducted to determine whether any evidence supported a defense to IOS's breach-of-contract claim or a potential breach-of-contract and defective-product counterclaim by Colortech. The record gives no indication Russell had any reason to believe the advice given was not sound. Accordingly, he was entitled to rely on counsel's advice in directing Colortech to retain the copiers.

"Because we find Russell's actions were privileged in authorizing the conversion of the copiers and he was entitled to rely on the advice of counsel under the circumstances, we need not decide the other issues raised by the parties."

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