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Wisconsin law governs foreign corporations

Crooks

“Wisconsin laws regarding a corporation’s duty to its creditors are not obsolete or senseless, as contemplated by Heath. Since Beloit Corporation’s activities that are the subject of this case primarily occurred in Wisconsin, it makes sense to apply the laws of this state.”

Hon. N. Patrick Crooks Wisconsin Supreme Court

Wisconsin corporate law governs foreign corporations doing business in Wisconsin, the Wisconsin Supreme Court held on April 6. Accordingly, the court also held that, in order for officers and directors to have a fiduciary duty to creditors, a corporation must be both insolvent and no longer a going concern.

In doing so, the court reversed a published decision of the court of appeals, Beloit Liquidating Trust v. Grade, 2003 WI App 176, 266 Wis.2d 388, 669 N.W.2d 232.

For approximately 140 years, Beloit Corporation designed and manufactured pulp and papermaking machines. Beloit Corporation was a profitable corporation for many of those years and reported an operating income of over $65 million as late as 1995.

Although Beloit Corporation was organized under the laws of Delaware, its primary place of business was located in Beloit. Beloit Corporation also operated 65 wholly-owned or partially-owned subsidiaries, throughout the world.

Harnischfeger Industries, Inc., was also organized under Delaware law, but had its principal place of business in Wisconsin. Harnischfeger owned 80 percent of Beloit Corporation.

On June 7, 1999, Harnischfeger, Beloit Corp., and all of the other businesses owned by Harnischfeger filed for bankruptcy protection in Delaware. The bankruptcy court appointed a committee of unsecured creditors to explore potential conflicts of interest between debtors and related parties.

The Committee sought the right to sue, on behalf of Beloit Corp., the current and former officers and directors of Beloit Corp. and Harnischfeger for alleged mismanagement, breach of fiduciary duty, and corporate waste.

The bankruptcy court permitted the Committee to do so, and, in 2001, the Committee commenced an action in Milwaukee County.

Shortly thereafter, the Beloit Corpora-tion Liquidating Trust was formed to liquidate Beloit Corporation’s remaining assets, and the Trust was substituted as the plaintiff for the Committee.

The officers and directors moved to dismiss, and Milwaukee County Circuit Court Judge Timothy G. Dugan granted the motion, concluding that Wisconsin law applied, and therefore, because Beloit Corp. was an ongoing corporation at the time of the alleged malfeasance, the officers and directors owed no duty to the creditors.

The trust appealed, and a divided court of appeals reversed, with Judge Ted Wedemeyer dissenting. The majority held that, pursuant to the internal affairs doctrine, Delaware law applied, as the state of incorporation. Applying Delaware law, the court held the suit could go forward, because the only requisite was that the corporation be insolvent at the relevant time.

The Supreme Court accepted review, and reversed the court of appeals in a unanimous decision by Justice N. Patrick Crooks. Justice David T. Prosser Jr. did not participate.

What the court held

Case: Beloit Liquidating Trust v. Grade, No. 02-2035.

Issue: In a corporate law dispute involving corporations with principal places of business in Wisconsin, but incorporated in Delaware, which state’s law should apply?

Holding: Wisconsin’s. The internal affairs doctrine, under which the law of the state of incorporation applies, has not been adopted by the Wisconsin legislature.

Counsel: John F. Hovel, Leonard G. Leverson, Milwaukee, Curtis C. Mechling, New York, for appellant; Gregory A. Kotsonis, Milwaukee, Levenfeld Pearlstein, Chicago; Paul F. Linn, Christopher C. Mohrman, Charles J. Crueger, Milwaukee; Christopher T. Hale, K. Scott Wagner, Milwaukee, for respondent.

Choice of Law

Under Wisconsin law, officers and directors owe no duties to creditors unless the corporation is both insolvent and no longer a going concern. Boyd v. Mutual Fire Ass’n., 116 Wis. 155, 90 N.W. 1086 (1902); McGivern v. Amasa Lumber Co., 77 Wis.2d 241, 252 N.W.2d 371 (1977). Under Delaware law, a corporation need only be insolvent for such a duty to arise.

The court first rejected the internal affairs doctrine, and held that Wisconsin law applies to the case, rather than Delaware law. The court relied primarily on sec. 180.1704, which provides: “[Chapter 180] applies to all foreign corporations transacting business in this state on or after January 1, 1991.”

Under the internal affairs doctrine, a corporation’s internal affairs — matters peculiar to the relationships among or between the corporation and its officers, directors and shareholders — are governed by the law of the state of incorporation. For matters that do not directly concern the corporation’s internal governance, the doctrine creates a rebuttable presumption in favor of the state of incorporation.

The court concluded, “we find the plain language of sec. 180.1704 helpful in discerning our legislature’s intent with respect to corporations and choice of law principles. Section 180.1704 puts all corporations on notice that, when transacting business in Wisconsin, they are subject to Chapter 180. Given this cle
ar statutory language, and Wisconsin’s failure to adopt the internal affairs doctrine, either by statute or through case law, we conclude that the language of sec. 180.1704 supports the holding that Wisconsin law should be applied in determining whether the directors or offices breached their fiduciary duty to Beloit Corporation’s creditors.”

The court further found that it would constitute “officious intermeddling” to apply Delaware law. The court reasoned, “While Beloit Corporation was incorporated under Delaware laws and filed bankruptcy in Delaware, that comprised the extent of Beloit Corporation’s contact with Delaware. In contrast, Beloit Corporation’s contacts with Wisconsin exceeded its isolated interaction with Delaware. Beloit Corporation’s principal place of business was located in Wisconsin for 140 years.

The majority owner of Beloit Corporation’s stock, Harnischfeger, was also headquartered in Wisconsin.”

The court added, “Moreover, every officer and director named in this case worked in Wisconsin for either Beloit Corporation or Harnischfeger, and the alleged breaches of fiduciary duty occurred within Wisconsin. After considering these factors, we conclude that application of Delaware law in this case would constitute officious intermeddling with the laws of Wisconsin.”

Finally, the court found that all of the five factors set forth in Heath v. Zellmer, 35 Wis.2d 578, 151 N.W.2d 664 (Ct.App.1967) weigh in favor of applying Wisconsin law: (1) predictability of results; (2) maintenance of interstate and international order; (3) simplification of the judicial task; (4) advancement of the forum’s governmental interests; and (5) application of the better rule of law.

Discussing predictability, the court rejected the reasoning of the court of appeals, which noted the numerous places, both domestic and foreign, where Beloit Corp. conducted business, and found that parties entering into a legal relationship need to “know that their rights will be the same, irrespective of the forum.”

Instead, the Supreme Court found, “Wisconsin Stat. sec. 180.1704 is clear on its face and puts corporations on notice that, if they choose to transact business in this state, they will be subject to Wisconsin law. Thus, we conclude that applying Wisconsin law to the present case will enhance predictability of results for corporations doing business in this state.”

As for maintenance of interstate and international order, the court again cited the more extensive contacts with Wisconsin to find that this factor weighed in favor of applying Wisconsin law.

Turning to simplification of the judicial task, the court found, “In Heath, we noted that ‘a court’s task is rarely simplified when the lawyers and judges must apply themselves to foreign rather than forum law.’ Heath, 35 Wis. 2d at 597. Wisconsin law regarding whether officers and directors owe a fiduciary duty to a corporation’s creditors is not complex or unmanageable. Thus, application of Wisconsin law in this case will simplify our task of reaching a decision in this case.”

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Case Analysis

Finally, the court found that Wisconsin’s governmental interests will be advanced by applying Wisconsin law, and that Wisconsin law regarding liability to creditors is the better law and should be applied. The court reasoned, “Wisconsin laws regarding a corporation’s duty to its creditors are not obsolete or senseless, as contemplated by Heath. Since Beloit Corporation’s activities that are the subject of this case primarily occurred in Wisconsin, it makes sense to apply the laws of this state.”

Going Concern

Quoting long-established Wisconsin law, the court iterated that directors of a going corporation owe a duty to creditors only if the corporation is insolvent, and “the corporation ceases to be a going concern, or the situation is such that the directors know, or ought to know, that suspension is impending, that its assets become a trust fund, so that directors may not prefer themselves over general creditors.” Hamilton v. Menominee Falls Quarry Co., 106 Wis. 352, 360, 81 N.W. 876 (1900).

Because the actions that the Trust claimed constituted corporate waste and mismanagement occurred while the corporation was still a going concern, the court concluded that the complaint was properly dismissed at the circuit court level, and reversed the court of appeals decision to the contrary.

Click here for Case Analysis.

David Ziemer can be reached by email.

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