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Torts of Conversion

Breaches of Stock Transfer Agreements May Be Torts of Conversion

In the law of torts, conversion may be committed even by the breach of a contract to sell or transfer stock, if the buyer has fully performed.

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Conversion Torts Based on Breach of Contract

Prior to incorporation, the founders or “promoters” of a future corporation sometimes may make vague promises to employees or attorneys that if the business is successful, they will give the employee or attorney an “interest in the business.” Also very frequently, the owner of a corporation agrees that an employee will earn an ownership interest over time. After the employee performs his part of the agreement, the majority shareholder may regret the deal and delay or refuse to issue the shares. This was the situation in Willis v. Donnelly. In that case, the defendant was the sole shareholder of a corporation that was established to operate a day spa. The defendant contracted with the plaintiff, who owned a successful hair salon, to give up his existing business and to transfer his staff and customers, for which the plaintiff would receive a 25% ownership in the corporation as soon as the new business reached a certain revenue goal.

However, the defendant soon regretted this agreement because the costs and capital requirements were much greater than anticipated, and when the revenue targets were reached the corporation was still losing money. The defendant demanded that the plaintiff “act like an owner” by contributing capital or assuming some of the debt and was frustrated when the plaintiff refused to do so. Therefore, the defendant delayed issuing the stock and later persuaded the plaintiff to consent to the delay so that the defendant could get all the tax benefits of the losses from the S corporation. Ultimately, the plaintiff was fired without ever having received his shares. The Supreme Court reversed a judgment for the plaintiff for breach of fiduciary duty, holding that no duties arose because the plaintiff was never a shareholder.

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When does one become a shareholder? The transfer of share ownership is a matter of contract. When there is a “manifest intention of the parties to this enterprise” that a person is a shareholder, and then he is a shareholder. In Yeaman v. Galveston City Co., the Texas Supreme Court held: “He becomes a full stockholder, certainly where he has performed his obligation, and possession all of a stockholder’s right, even if no certificate is issued to him at all.” In Greenspun v. Greenspun, the Court of Appeals held that, as a legal matter, “transfer of title may take place though there is no delivery of the certificates themselves, nor endorsement of them, nor transfer of them on the books of the corporation, and even though the sale be by parol.” In affirming the lower court’s opinion, the Texas Supreme Court specifically adopted this portion of the opinion.

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The plaintiff in Willis v. Donnelly should probably have argued that he became a shareholder by virtue of the letter agreement the moment that the revenue target was reached, that the agreement to transfer ownership was essentially self-executing. However, that theory would have been inconsistent with the plaintiff’s claim that the defendant breached the letter agreement by not issuing the shares, which the jury found to be the fact. Furthermore, the undisputed evidence was that the transfer of ownership was delayed (not merely the issuance of share certificates) so that the defendant could continue to enjoy the tax benefits of the corporation’ losses, which would have to be shared with the plaintiff once the plaintiff became a shareholder. Therefore, in Willis v. Donnelly, it was clear on that record that ownership had not been transferred to the plaintiff.

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Failure to Honor Contracts as Torts of Conversion

In Bower v. Yellow Cab Co., the plaintiff had signed agreements conclusively proving that the plaintiff’s husband had purchased shares in the corporation. Those shares were never issued. After her husband’s death, the plaintiff made several requests for the share certificates and was ignored. The defendants never denied plaintiff’s share ownership; but they also never issued the stock to her on the company’s books and never “allowed [plaintiff] to exercise any rights of a stockholder,” never notified her of a stockholders’ meeting or gave her the opportunity to be present. The court held that the evidence demonstrated “a wrongful refusal to issue certificates of stock to which plaintiff was entitled in the Yellow Cab Company” and that “her rights as a stockholder were ignored” and held that both the corporation and its directors individually were liable for conversion torts.

In Neyland v. Brammer, the defendant’s husband contracted with the plaintiff to have the plaintiff locate, acquire, and develop sand and gravel deposits in the vicinity of Victoria, Texas, promising to pay him “$400.00 per month and 10% interest in the profits of such business, as compensation for his services,” which was later modified to provide for issuance of 10% of the stock in the corporation that defendant formed. The plaintiff later sued the defendant for conversion of his stock based on the failure to issue the stock agreed to by her late husband. The trial court rendered judgment for the defendant; the court of appeals reversed, holding: Plaintiff “conclusively showed himself to be the owner, under the terms of his original contract of late 1927 or early 1928 with J. L. Brammer for 10%. of the latter’s interest in a holding corporation to be thereafter created for their joint sand and gravel business at Victoria” and that defendant “converted to her individual benefit the interest so belonging to him, became in consequence liable in both her capacities to him for its reasonable value as of that date.” The court reversed and rendered a judgment for the plaintiff for the value of the stock found by the trial court, but then on rehearing remanded the case for a new determination of damages.