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It is the purpose of the annotation to deal, in the main, with the rights of going corporations as to declaration. of dividends; and it does not cover cases generally in which there was not a declaration of dividends, as this phrase is ordinarily used, but rather a distribution of all, or substantially all, of the capital among the stockholders and a winding up of the corporation.

II. Fund in general from which dividends may be paid.

a. Rule generally. The rule is frequently laid down that dividends may be properly paid only out of net profits or surplus, and not out of capital, of the corporation. But, while this may be accepted as a correct generalization, considered abstractly, it cannot be regarded as covering the whole field, or as true

See, for example, Watson v. Columbia Mut. Bldg. & L. Asso. (1902) 71 App. Div. 498, 75 N. Y. Supp. 747, involving the question of the right of a stockholder to a dividend in a building and loan association under the bylaws and articles of incorporation and the special provisions of the stock certificate.

In the absence of express statutory authority, it has been held that a building and loan association does not have a general power to declare and pay dividends out of profits of the association. Latimer v. Equitable Loan & Invest. Asso. (1899) 78 Mo. App. 463. It was held that the scheme provided in the charter of the association did not contemplate the payment of dividends on stock; that under the charter the holders of stock could at any time withdraw from it in the manner therein provided and thus withdraw their proportionate share of the profits, if there were any; and that the act of the directors in declaring dividends on their own stock was ultra vires.

In determining the surplus of an insurance company from which a dividend may legally be declared, it has been held that the directors cannot include as an asset subscriptions by shareholders to a guaranty fund which the corporation is authorized to establish, where the only application or use which can be made of the fund

in every case regardless of the particular circumstances. For example, in the case of wasting assets corporations, subsequently considered, payments of dividends substantially from capital have been sanctioned, or at least payments without replacement of capital; and the same is true in England with regard to corporations generally, so far as fixed capital is concerned, although the courts of that country make a distinction between payments of dividends directly from capital and such payments without replacement of capital which has been lost or exhausted. If the rights of creditors are not concerned, and all the stockholders consent, there would seem to be no legal objection, apart from express statutes, to a corporation's paying dividends out of capital. This does not mean, however, that subsequent creditors might not have a

is to pay losses on policies, and the agreement with the subscribers is that the fund shall not be resorted to unless all the resources of the company are exhausted, and that, if any portion of it is used, it shall be refunded out of the first surplus receipts. Russell v. Bristol (1881) 49 Conn. 251.

The possibility that an insurance company may at some future time become involved in losses on account of risks assumed, and that a proposed dividend will reduce the amount of assets of the company to which a policyholder looks for indemnity in case of loss, will not entitle the policyholder to enjoin payment of the dividend, if, as the result of good management over many years, so large a surplus fund has accumulated as makes it safe and prudent, in the judgment of its directors, to declare a dividend. McKean v. Philadelphia Contributionship (1896) 6 Pa. Dist. R. 40, affirmed on opinion of lower court in (1897) 181 Pa. 361, 37 Atl. 528.

On the question of the right of a policyholder in an insurance company under the contract of insurance to distribution of a surplus, see, for example, Greeff v. Equitable Life Assur. Soc. (1899) 160 N. Y. 19, 46 L.R.A. 288, 73 Am. St. Rep. 659, 54 N. E. 712; and Fuller v. Metropolitan L. Ins. Co. (1898) 70 Conn. 647, 41 Atl. 4. In the latter case, the court said that the company was the absolute owner of its as

right to object.7a It is not entirely clear as to how far a minority stockholder might go, in the absence of discrimination, in preventing the payment of dividends from capital, if there are no creditors or statutory prohibition. The cases recognizing the general rule above indicated have not been called on to apply it under the circumstances suggested. As a rule, stockholders have sought the intervention of the courts to compel the declaration of dividends, and do not seem to be particularly averse to receiving dividends without regard to the fund from which they are paid. Creditors of the corporation, on the other hand, have frequently raised the question, sets, and, within the limits of honest dealing, had complete control of the time and manner of declaring a dividend on its policies; that this time and manner, however, might be controlled by law, by the charter, and by contract; but that no contract could make a dividend anything but the return to policyholders of funds derived from their premiums not used, and not needed, for the purpose for which they were paid; also that no dividend could be made by a company until after a valuation of its assets and liabilities showing an excess of assets over liabilities.

It has been held that it is not optional with the directorate of life insurance companies, not purely stock companies, whether they will declare dividends of the so-called surplus, or to what extent. United States L. Ins. Co. v. Spinks (1906) 126 Ky. 405, 13 L.R.A. (N.S.) 1053, 96 S. W. 889 (error dismissed for want of jurisdiction in (1907) 209 U. S. 539, 52 L. ed. 917, 28 Sup. Ct. Rep. 569). As to discretion of directors generally, see VI. infra. 7a See IX. c, 4, infra.

8 United States.-New York, L. E. & W. R. Co. v. Nickals (1886) 119 U. S. 296, 30 L. ed. 363, 7 Sup. Ct. Rep. 209; Mobile & O. R. Co. v. Tennessee (1894) 153 U. S. 486, 38 L. ed. 793, 14 Sup. Ct. Rep. 968; Main v. Mills (1874) 6 Biss. 98, Fed. Cas. No. 8,974; Boyd v. Schneider (1904) 65 C. C. A. 209, 131 Fed. 223; Knapp v. S. Jarvis Adams Co. (1905) 70 C. C. A. 536, 135 Fed. 1008; Spencer v. Lowe (1912) 117 C. C. A. 497, 198 Fed. 961; Corliss v. United States (1925; C. C. 8th) 7 F. (2d) 455; McGinnis v. Corpo

as they undoubtedly have the right to do, that the corporation could not legally declare and pay dividends out of capital. In this country, the matter is in many states controlled by statutes expressly forbidding the payment of dividends except from net earnings or surplus, or the withdrawal or payment to stockholders of any part of the capital stock. Keeping in mind the above limitations, the rule may be accepted as a general proposition, apart from express statutes, that net earnings or surplus constitute the proper fund for payment of dividends, and that dividends cannot legally be declared and paid out of capital of the corporation.8

The meaning of the term itself,ration Funding & Finance Co. (1925; D. C.) 8 F. (2d) 532. See also Eyster v. Centennial Bd. of Finance (1877) 94 U. S. 500, 24 L. ed. 188.

Alabama.-Mobile Towing & Wrecking Co. v. Hartwell (1922) 208 Ala. 420, 95 So. 191.

Connecticut. Fuller v. Metropolitan L. Ins. Co. (1898) 70 Conn. 647, 41 Atl. 4; Davenport v. Lines (1899) 72 Conn. 118, 44 Atl. 17; Massoth v. Central Bus Corp. (1926) 104 Conn. 683, 134 Atl. 236. See also Union & N. H. Trust Co. v. Taintor (1912) 85 Conn. 452, 83 Atl. 697.

Delaware.-Bryan v. Aikin (1912) 10 Del. Ch. 1, 82 Atl. 817 (reversed on another ground in (1913) 10 Del. Ch. 446, 45 L.R.A. (N.S.) 477, 86 Atl. 674); Wittenberg v. Federal Min. & Smelting Co. (1926) Del. Ch. 133 Atl. 48, affirmed in the reported case (FEDERAL MIN. & SMELTING CO. v. WITTENBERG, ante, 1).

Georgia. Crawford v. Roney (1908) 130 Ga. 515, 61 S. E. 117, later appeal to same effect (1910) 135 Ga. 1, 68 S. E. 701 (recognizing general rule and also citing statute prohibiting declaration of dividends except from net earnings); Mangham v. State (1912) 11 Ga. App. 440, 75 S. E. 508 (same); Bank of Morgan v. Reid (1921) 27 Ga. App. 123, 107 S. E. 555 (same).

Illinois.-Hamblock v. Clipper Lawn Mower Co. (1909) 148 Ill. App. 618.

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“dividend,”—has been regarded as indicating that there must be surplus or

(1913) 53 Ind. App. 140, 101 N. E. 329.

Kansas. Salina Mercantile Co. v. Stiefel (1910) 82 Kan. 7, 107 Pac. 774. Kentucky. Smith v. Southern Foundry Co. (1915) 166 Ky. 208, 179 S. W. 205; Petty v. Hagan (1924) 205 Ky. 264, 265 S. W. 787; Citizens Nat. Bank v. Dronillard (1885) 6 Ky. L. Rep. 588 (abstract).

Louisiana.-Van Vleet v. Evangeline Oil Co. (1911) 129 La. 406, 56 So. 343. Michigan. Alfred J. Brown Seed Co. v. Brown (1927) 240 Mich. 569, 215 N. W. 772. See also Lockhart v. Van Alstyne (1875) 31 Mich. 76, 18 Am. Rep. 156.

Missouri.-Shields v. Hobart (1903) 172 Mo. 491, 95 Am. St. Rep. 529, 72 S. W. 669; Slayden v. Seip Coal Co. (1887) 25 Mo. App. 439; Kidd v. Puritana Cereal Food Co. (1909) 145 Mo. App. 502, 122 S. W. 784; Hodde v. Nobbe (1920) 204 Mo. App. 109, 221 S. W. 130; Benas v. Title Guaranty Trust Co. (1924) 216 Mo. App. 53, 267 S. W. 28.

New Hampshire.-Walker v. Walker (1895) 68 N. H. 407, 39 Atl. 432.

New Jersey. McGregor v. Home Ins. Co. (1880) 33 N. J. Eq. 181; Elkins v. Camden & A. R. Co. (1882) 36 N. J. Eq. 233. See also Day v. United States Cast Iron Pipe & Foundry Co. (1924) 96 N. J. Eq. 736, 126 Atl. 302 (question now controlled by statute.)

New York. De Peyster v. American F. Ins. Co. (1837) 6 Paige, 486; Scott v. Eagle F. Co. (1838) 7 Paige, 198.

Ohio.-Miller v. Ratterman (1890) 47 Ohio St. 141, 24 N. E. 496; Mente v. Groff (1910) 10 Ohio N. P. N. S. 148 (recognizing rule apart from statute in this state).

Pennsylvania. Cornell v. Seddinger (1912) 237 Pa. 389, 85 Atl. 446; Loan Soc. v. Eavenson (1915) 248 Pa. 407, 94 Atl. 121; McGinniss v. Schneebeli (1918) 28 Pa. Dist. R. 368. Rhode Island.-Taft v. Hartford, P. & F. R. Co. (1866) 8 R. I. 310, 5 Am. Rep. 575.

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46 L.R.A. (N.S.) 637, 133 Pac. 465 (rule recognized apart from statute); Northern Bank & T. Co. v. Day (1915) 83 Wash. 296, 145 Pac. 182.

West Virginia. Benedum v. First Citizens Bank (1913) 72 W. Va. 124, 78 S. E. 656.

In England and its dependencies the question is controlled largely by the articles of the particular companies; but the principle appears to be applicable, apart from such express statutory or other provisions.

Lever v. Land Securities Co. (1891) 8 Times L. R. (Eng.) 94; MacDougall v. Jersey Imperial Hotel Co. (1864) 2 Hem. & M. 528, 71 Eng. Reprint, 568 (interest not payable to shareholders out of capital); Flitcroft's Case (1882) L. R. 21 Ch. Div. 519, 16 Eng. Rul. Cas. 263—C.A.; Re London & Gen. Bank (1894) 72 L. T. N. S. (Eng.) 227, affirmed in [1895] 2 Ch. 673 (recognizing rule apart from special provisions of articles of company) Phillips v. Melbourne & C. Soap & Candle Co. (1890) 16 Vict. L. R. 111; Kehoe v. Waterford & L. R. Co. (1888) Ir. L. R. 21 Eq. 221; Colonial Assur. Co. v. Smith (1913) 23 Manitoba L. R. 243, 12 D. L. R. 113; Northern Trust Co. v. Butchart (1917) Manitoba, [1917] 2 West. Week. Rep. 405, 35 D. L. R. 169 (recognizing rule apart from statute).

That payment of dividends out of capital is illegal whether the company is formed under a special act in which the Companies Clauses Consolidation Act is incorporated, or is a company registered under the Joint Stock Companies Act, see Lawrence v. West Somerset Mineral R. Co. [1918] 2 Ch. (Eng.) 250.

As a general rule corporations have no right to pay dividends out of any fund except the excess remaining from the conduct of the business after paying taxes, operating expenses, and fixed charges. Corliss v. United States (1925; C. C. A. 8th) 7 F. (2d) 455.

Until the corporation has a surplus in its treasury, a stockholder cannot say that there is any definite sum due to him from the corporation, nor necessity of a declaration of a dividend. Leary v. Columbia River & P. S. Nav. Co. (1897; C. C.) 82 Fed. 775.

Apart from statute, the payment of dividends out of capital by directors of a corporation is ultra vires, and

profits to be divided; and sometimes the trust-fund theory is invoked, is invoked,

cannot legally be done even with the sanction of the shareholders, much less without their sanction. Northern Trust Co. v. Butchart (Manitoba) supra. Although there was a statute in this case governing the matter, the court took the view that the above ruling existed apart from the statute.

It is held in Colonial Assur. Co. v. Smith (1913) 23 Manitoba L. R. 243, 12 D. L. R. 113, that payment of even the smallest dividend by a corporation is unjustified when its capital stock is impaired.

9 Various definitions have been given of the term "dividends," to which it is unnecessary to refer in detail. It has been said that the term in its ethical as well as its ordinary acceptation means that portion of its profits which a corporation, by its directory, sets apart for ratable distribution among its stockholders. Mobile & O. R. Co. v. Tennessee (1894) 153 U. S. 486, 38 L. ed. 793, 14 Sup. Ct. Rep. 968.

The term "dividend" as applied to corporations, in a legal sense and as generally understood in common usage, means earnings or profits. See, for example, Re Romney (1922) 60 Utah, 173, 207 Pac. 139.


10 Dividends cannot be paid out of capital stock, since the whole of the capital stock is a trust fund for the payment of the debts contracted upon the faith of it, which the stockholders cannot divert from that object by distributing it as dividends, or otherwise dividing it among themselves. for example, Bank of Morgan v. Reid (1921) 27 Ga. App. 123, 107 S. E. 555. The authorities are not harmonious on the question as to whether the assets of a corporation constitute a trust fund for creditors while the corporation is solvent, or whether corporations have the same right as individuals with regard to disposition of their property. Several illustrative cases may be referred to as showing the divergent views.

In Sanger v. Upton (1875) 91 U. S. 56, 23 L. ed. 220, it is said that the capital stock of a corporation is a fund set apart for the payment of its debts; that it is a substitute for the personal liability which subsists in private copartnerships; that, when debts are incurred, a contract arises with the creditors that it shall not be

though this doctrine in itself extends beyond the limits of the annotation.10 withdrawn or applied, otherwise than upon their demands, until such demands are satisfied; that the creditors have a lien upon it in equity, and if diverted they may follow it as far as it can be traced and subject it to the payment of their claims, except as against holders who have taken it bona fide for a valuable consideration and without notice; that it is publicly pledged to those who deal with the corporation for their security.

On the other hand, in Hospes v. Northwestern Mfg. & Car Co. (1892) 48 Minn. 174, 15 L.R.A. 470, 31 Am. St. Rep. 637, 50 N. W. 1117, the court said: "This trust fund' doctrine, commonly called the 'American doctrine' has given rise to much confusion of ideas as to its real meaning, and much conflict of decision in its application. To such an extent has this been the case that many have questioned the accuracy of the phrase, as well as doubted the necessity or expediency of inventing any such doctrine. While a convenient phrase to express a certain general idea, it is not sufficiently precise or accurate to constitute a safe foundation upon which to build a system of legal rules. The doctrine was invented by Justice Story in Wood v. Dummer (1824) 3 Mason, 308, Fed. Cas. No. 17,944, which called for no such invention.

. . The phrase, that 'the capital of a corporation constitutes a trust fund for the benefit of creditors,' is misleading. Corporate property is not held in trust, in any proper sense of the term. A trust implies two estates or interests,-one equitable and one legal; one person, as trustee, holding the legal title, while another, as the cestui que trust, has the beneficial interest. Absolute control and power of disposition are inconsistent with the idea of a trust. The capital of a corporation is its property. It has the whole beneficial interest in it, as well as the legal title. It may use the income and profits of it and sell and dispose of it, the same as a natural person. It is a trustee for its creditors in the same sense and to the same extent as a natural person, but no further."

The latter view is taken also in a case falling within the scope of the present annotation,-Ratcliff v. Clendenin (1916) 146 C. C. A. 253, 232

The rule has been held applicable in the case of corporations having stock of no par value.11

Many of the cases involving statutes forbidding the declaration of dividends except from surplus or profits arise in connection with the question of the liability of directors or stock

Fed. 61,-in which it is said that a solvent corporation, like a solvent individual, holds its property free from any enforceable trust or equitable lien in favor of its creditors; and that it is only when it becomes insolvent that such a trust or lien in favor, first, of creditors, and second, of stockholders, attaches to its property.

See in this connection IX. b, infra, as to the right to recover from stockholders dividends paid out of capital, the result in some instances depending on the court's views regarding the trust-fund theory of corporate assets. Attention is called particularly to the statement in McDonald v. Williams (U. S.) cited in note 242, infra, rejecting the theory as applied to solvent corporations. And see notes 246 and 295, infra.

11 It has been said that capital stock of no par value corporations cannot lawfully be invaded by the declaration of dividends, any more than can capital stock of a par value stock corporation. American Ref. Co. v. Staples (1924) Tex. Civ. App. —, 260 S. W. 614. The court regarded the amount paid to the corporation by the stockholder either in money or its equivalent as constituting the capital stock, and said that if, as contended, the amount of the capital stock of said corporation was the net value of its assets, as such value fluctuated from time to time, any dividend would of necessity have to be paid out of capital stock of the corporation; that it was patent that for the purpose of declaring dividends there must be a capital stock of such corporation which cannot be lawfully invaded, and which is separate from and exclusive of the profits or surplus, which alone are applicable to dividends; that any other rule would of necessity either deny the declaration of dividends altogether, or render the entire assets of the company subject to distribution at any time among the stockholders, neither of which alternatives could possibly be adopted. The general sub

holders where dividends are wrongfully paid, and are considered elsewhere in the annotation.12 But general questions as to the construction and effect of such statutes have arisen in various cases, and may properly be set out at this point.13 Thus, it has been held that, where a statute de

ject of corporate stock without par value is discussed in annotation in 36 A.L.R. 791, and 45 A.L.R. 1501. 12 See IX. infra.

13 In Strickland v. National Salt Co. (1911) 79 N. J. Eq. 182, 81 Atl. 828, it was held that the facts showed an attempt to secure the payment of dividends whether they were earned or not, through the issuance of certificates of indebtedness equal in amount to expected dividends for the time the certificates had to run, and that the transaction was therefore a violation of the statute of that state, providing that no corporation should make dividends except from the surplus or net profits arising from its business, nor divide, withdraw, or pay to stockholders any part of the capital stock.

It is held in Re Provident Inst. for Savings (1878) 30 N. J. Eq. 5, that a savings bank cannot, under the New Jersey statute, pay to depositors interest on dividends exceeding 5 per cent per annum until after a surplus sufficient, in the judgment of the managers, to enable the institution to meet every contingency or loss in its business by reason of depreciation of its securities or otherwise, has been accumulated; that, when such surplus has been accumulated, the whole profits or income may be divided among depositors; and the court indicated that the surplus should not be less than 15 per cent of the deposits. The statute provided that it should be the duty of the trustees, managers, or directors of savings institutions "to regulate the rate of interest or dividends, not to exceed 5 per cent per annum," in such manner that depositors would receive, as nearly as might be, all the profits of the corporation, after deducting necessary expenses and other payments, and "reserving such amount as said trustees or managers may deem expedient as a surplus."

Since under the Massachusetts statute a board of gas and electric light commissioners has no power to enter an independent order directing.

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