Fells v. Katz

New York Court of Appeals · 1931 · Corporations

175 N.E. 516 (1931)

Updated August 22, 2026

CorporationsCorporate governanceBoard authorityShareholder agreementsOfficer removalEmployment contractsboard of directorssterilized board

Facts

The defendant corporation was formed by merger, and its five equal shareholders agreed each would be elected an officer and director and would receive a ten-year employment contract with equal salary rights. Plaintiff Fells became president and entered a ten-year employment contract requiring him to devote his entire time, attention, and best efforts to the corporation, subject to a provision allowing him reasonable time for personal affairs, and providing salary during incapacity. After plaintiff organized another company to manufacture mail chutes, a business the court described as to some extent competing and taking his time away from defendant, the board removed him as president and director and terminated his employment. Plaintiff sought reinstatement, arguing the shareholder agreements deprived the corporation of power to discharge him even if he breached his duties.

Issue

Can a shareholder agreement and related employment arrangements validly prevent a corporation's board of directors from discharging an officer-employee who has breached his duty by engaging in a competing business? More specifically, was plaintiff entitled to reinstatement notwithstanding the board's determination that he had acted disloyally?

Rule

The business of a corporation must be managed by its board of directors, and shareholders cannot by agreement create a sterilized board deprived of authority to act for the corporation according to the directors' best judgment. Accordingly, an agreement that would prevent directors from discharging an unfaithful officer or employee is illegal as against public policy, and any promise to continue a person as director or president is conditioned on that person's faithful and loyal performance.

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One of 10 multiple-choice questions for this case. Pick an answer to see why.

In Buffalo, five equal shareholders of Lakefront Fixtures, Inc. sign a pact requiring the board to keep each shareholder as a vice president for eight years and stating that no officer covered by the pact may be removed during that period. Two years later, the board learns that vice president Nolan Price has been steering customers to a side business he owns and votes to discharge him.

If Price sues for reinstatement based on the shareholders' pact, which result is most consistent with the governing rule?

Explanation. The majority rule is that the corporation's business must be managed by its board, and stockholders cannot create a sterilized board deprived of authority to act according to its best judgment. An agreement that would prevent the directors from discharging an unfaithful officer is illegal as against public policy. Because Price acted disloyally, he cannot compel reinstatement.