Alabama v. Kelley (214 F. Supp. 745, 1963)

JOHNSON, District Judge.

This action was originally filed in the Circuit Court of Montgomery County, Alabama, in December 1958, by the State of Alabama through its Attorney General. The State of Alabama seeks to have a lease agreement entered into in 1956 and amended in 1957 between the State, as lessor, and The Tri-State Corporation, as lessee, rescinded, set aside, canceled and held for naught.

On the date the action was filed in the State court, the Circuit Court of Montgomery County, Alabama, issued a temporary restraining order and injunction wherein the defendants, including the Governor of the State of Alabama and the Alabama Director of the Department of Conservation — both in their representative capacities — were restrained and enjoined from entering into any sublease or subcontract or other agreement covering the lease or subleased premises, or performing any acts thereon in furtherance or in accordance v/ith said agreement “until further order.” This injunctive order was contested by TriState, and from a decree entered on January 13, 1960, denying a motion to discharge and dissolve the injunction and overruling a demurrer to the complaint, Tri-State appealed to the Supreme Court of Alabama. The action of the lower court was affirmed in Tri-State Corporation, Inc. et al. v. State of Alabama ex rel. Gallion, Attorney General, 272 Ala. 41, 128 So.2d 505.

There have been several changes in parties by way of amendments and substitutions.

In October 1961, the case was amended —while still in the State court — to bring in as a necessary and indispensable defendant the Small Business Administration, an agency of the United States. Thereupon, after the United States of America had been substituted for the Small Business Administration as the real party in interest, and on October 18, 1961, the entire case was removed to this. Court pursuant to Title 28 U.S.C.A. § 1442(a) (1).

In May 1962, the case was pretried and the issues for trial were formulated. The pretrial order of this Court, made and entered herein, is attached hereto as Appendix “C.”

Subsequent to the removal of the case to this Court and after the pretrial hearing, but before the trial, the United States, the State of Alabama, and The First Bank & Trust Company of Pensacola, Florida, entered into a stipulation and supplemental stipulation, the effect of which is to protect the interest of the United States and the Bank in the event the lease in question is canceled by this Court.

The case was tried before this Court, sitting without a jury, in August 1962 and was submitted in October 1962 upon the pleadings, the stipulations, depositions, requests for admissions and responses thereto, interrogatories and responses thereto, the testimony of several witnesses and exhibits thereto and the briefs and arguments of the parties. Upon this submission, this Court now in this memorandum opinion and as authorized by Rule 52, Federal Rules of Civil Procedure makes the appropriate findings of fact and conclusions of law.

On September 4, 1956, W. H. (“Bill”) Drinkard as the then Director of the Alabama Department of Conservation, and James L. Segrest as the then Chief of the Division of State Parks, Monuments and Historical Sites of the Alabama Department of Conservation, both executed the lease in the name of and in behalf of the State. The lease was approved on January 28, 1957, by the then Governor of the State of Alabama, James E. Folsom. This lease was amended on March 19, 1957, as is reflected by Appendix “B.” By this lease, certain described lands that are a part of the Gulf State Park in Baldwin County, Alabama, consisting of approximately 2739.4 acres of land, were leased by the State of Alabama to Tri-State. The property includes approximately 6758 front feet on the Gulf of Mexico and approximately 2573 acres exclusive of the land fronting on the Gulf.

The following is a summary of the pertinent provisions of the lease as amended:

Paragraph 1 provides for lease of property to Tri-State for a primary term of fifty years, with Tri-State having an option to renew the lease for an additional period of forty years; the renewal being subject to notice and increased rental and subject to Tri-State’s having substantially performed its obligations as required by the lease agreement.

Paragraph 2 gives Tri-State exclusive right to develop and manage and operate all businesses, concessions, facilities and activities established on the premises.

Paragraph U gives Tri-State the right to subdivide the premises, or portions thereof, and the right to offer for subleasing to third parties residential building lots for the purpose of constructing thereon residences and appurtenant facilities.

In addition, Tri-State is given the right to provide suitable areas for commercial use “and may offer the same for subleasing to third parties.” It further gives Tri-State the right to subcontract the operation of any businesses, concessions, or activities conducted on the premises.

Paragraph 5 requires that TriState submit within a year from the date of lease a master plan for the proposed development of the premises. This paragraph provides certain minimum requirements and other restrictions on residential units.

Paragraph 8 provides that TriState expend “or to cause to be expended” a total of not less than $150,000 on permanent improvements on the premises within five years from the date of the lease, these improvements to include the construction of a motel and tourist cottages, roads and streets. This paragraph further provides that in the event Tri-State fails to expend such amount, the lease shall be terminated and Tri-State’s rights shall be extinguished.

Paragraph 9 requires that TriState shall keep adequate books and records and that they be available for audit by the State on demand.

Paragraphs 10 and 11 prohibit hunting and trapping on the leased premises, establish the premises as a game sanctuary and provide that the State will have sixty days from notice to it by Tri-State within which to cut and dispose of any timber that is to be removed from the premises; the revenue from the timber is to be paid to the State.

Paragraph 12 gives Tri-State the right to construct and maintain structures and facilities in accordance with the master plan and provides that any such structures “shall be and become the property of the State upon completion thereof, subject, however, to sub-lessee’s right to occupancy during the sub-lease term,” which term is authorized by Paragraph 4 supra, to run for the full lease period. This paragraph further provides that the State has a right to erect on the premises additional structures and facilities “upon the written approval” of The TriState Corporation, with the gross revenue derived therefrom to be divided equally between the State and Tri-State. This paragraph further provides, “It is agreed between the parties hereto that inasmuch as the leased premises is the property of the State, the improvements which are constructed upon the premises are not subject to ad valorem taxes. In the event such ad valorem taxes are, at some future time assessable, such taxes shall be paid by Contractor and deducted from the rentals which Contractor pays to the State under the terms of this agreement.”

Paragraph 13 says that the lease shall not be assigned in whole, but may be subleased in part by TriState “without first obtaining the written approval of the State.” This paragraph further provides that TriState shall at all times remain responsible to the State for the faithful performance of the terms and conditions of the lease, including the acts of its sublessees.

Paragraph 15 authorizes the State to extinguish the lease agreement “[u]pon failure of the Contractor to substantially comply with any of the provisions, stipulations or conditions contained herein.”

Paragraph 22 sets out the consideration and fees that Tri-State is to pay the State of Alabama under the lease. Since that paragraph is critical to an understanding of the issues in this ease, it is set out verbatim :

“22. CONSIDERATION, PAYMENT OF FEES TO STATE. As part of the consideration for this lease, Contractor has paid to the State simultaneously with the execution hereof the sum of Twenty-Five Thousand Dollars ($25,-000.00).

“Contractor further agrees and binds itself to pay to State, as rental for the premises, the sum of money equivalent to two per cent (2%) of the gross income realized by the Contractor from revenue producing facilities, businesses, activities and buildings or other improvements located and/or operated on the premises, until such time as the State has received from Contractor at said rate of two per cent (2%) the total amount of Twenty-Five Thousand Dollars ($25,000.00) ; thereafter, Contractor shall pay to the State as rental for said premises the sum of money equivalent to four per cent (4%) of said gross income. Contractor agrees to remit any amount due to the State in monthly installments on or before the 20th day of each month, the first of such installments to be due at the end of the first full calendar month occurring after the date of execution hereof. The monthly installments above stipulated shall be based on the gross income of the next immediately preceding month. ‘Gross income,’ as referred to in this instrument shall include all monies received for rent, fees, admissions, sub-leases or services; but in the sales of tangible merchandise the term ‘gross income’ shall be deemed to include only the amounts by' which the sale prices exceed the actual cost of the merchandise sold. Further, the percentage payments to the State shall be figured on gross income after first •excluding therefrom any monies received in the form of sales or excise taxes or ad valorem taxes and all privilege licenses or fees payable to the State of Alabama •or Baldwin County shall be first deducted as an expense of doing business. Such privilege taxes shall include but not be limited to those levied on the sales or privilege of selling alcoholic beverages, tobacco and gasoline.”

The sublease to George Trawick from The Tri-State Corporation as lessor, recorded in the Office of the Judge of Probate of Baldwin County, Alabama in Book 265, page 546, et seq., was dated November 15,1957, and leased for a term of twenty-five years to Trawick the following described property for the purpose of constructing and operating a motel:

“The West 600 feet of the SE-% of the SW-% of Section 14, T9S, R4E, between Ala. Hwy. No. 182 and Middle Lake; The East 300 feet of the West 600 feet of the SE-14 of the SW-%, of Sec. 14, T9S, R4E, lying South of Ala. Hwy. No. 182; and the East 300 feet of the West 600 feet of the fractional NE-14 of the NW-1/4 of Sec. 23, T9S, R4E, lying South of Alabama Hwy. No. 182.”

The consideration recited in the sublease agreement to Trawick was “an annual rental of five per cent of lessees [meaning in this sublease — Trawick] monthly gross sales * * On March 1, 1958, The First Bank & Trust Company of Pensacola, Florida, loaned George Trawick the sum of $80,000, which sum was used in the construction of a motel on the property subleased to Tra-wick by Tri-State. The Bank then assigned 90% of that indebtedness to the United States of America, acting by and through the Small Business Administration, an agency of the United States of America, but retained a participation interest of 10% in said indebtedness. Therefore, in effect, the United States loaned Trawick $72,000 and The First Bank & Trust Company of Pensacola, Florida, loaned him $8,000. As security for this indebtedness, Trawick pledged, assigned, mortgaged and hypothecated the lease he received from Tri-State and also mortgaged all buildings and improvements that were erected on the property. In this connection, this Court specifically finds that neither the United States of America, acting by and through the Small Business Administration, nor The First Bank & Trust Company of Pensacola, Florida, had any knowledge, actual or constructive, that the lease between the State of Alabama and The Tri-State Corporation, Inc., was void or invalid.

The theory of the State, in seeking to have the lease and the sublease declared void, is that the compensation provided for in the lease is inadequate to the extent that it operates as a fraud on the State of Alabama; that the consideration provided for, or that can be expected under the provisions of said lease, is grossly inadequate; that said action of leasing the premises constitutes gross abuse of discretion on the part of the public officials and a breach of trust on the part of said officials; and that said conduct operated, and continues to operate, against the public interest. In seeking cancellation of the lease and sublease, pursuant to the stipulation hereinabove referred to, the State of Alabama offers to do equity in the event the contract and subcontract are canceled and declared void insofar as the United States and The First Bank & Trust Company of Pensacola, Florida, are concerned. In the event said lease is canceled, the State of Alabama further offers to do equity as to any improvements or expenditures by The Tri-State Corporation and its lessee, George Trawick. It has been stipulated and agreed by all concerned that in the event the lease is canceled, these equities are to be determined by the Court.

To these contentions, Tri-State and Trawick say that there was no fraud, inadequate consideration, or abuse of discretion. These defendants further say that if the lease is to be construed so as to provide for a diminution or reduction in rent in the event of a sublease, then such provision was the result of a mutual mistake of fact by the parties and the lease should be reformed so as to eliminate the provision or provisions resulting in such construction. These defendants further contend that if this Court declares the lease and sublease to be invalid, they are, in that event, entitled to restitution for their reasonable expenditures in and about the improvement of the leased premises. The defendants further contend that the State of Alabama is estopped from questioning the validity of the lease by reason of the delay in presenting the matter to a court and by reason of the large expenditures incurred by the defendants during such a delay.

It is generally conceded by all the parties to this case that the Legislature of the State of Alabama- has the power to authorize the leasing of State property, the length of the term for which leases may be made, and the general policy relating to such leases. There is no question but that the Legislature had conferred on the Director of Conservation for the State of Alabama the right to lease the property here involved. Sections 3 and 6, Title 8, Code of Alabama, Recompiled 1958; Act 341, approved July 1945; General Acts, 1945, page 554.

It is further generally conceded by all the parties to this action that this Court has the right to vacate a State contract which was the result of actual fraud. McGehee v. Lindsay, 6 Ala. 16; Finch v. State of Alabama, 271 Ala. 499, 124 So.2d 825. In the case now before this Court, there is no direct evidence of actual fraud on the part of any person connected with the execution of the lease, the amendment thereto, or the sublease. However, the law is clear to the effect that courts can and should intervene for the protection of the public in instances where there is fraud, corruption, or bad faith- — the equivalent of fraud. Van Antwerp v. Board of Commissioners of City of Mobile, 217 Ala. 201, 115 So. 239; Finch v. State of Alabama, supra; and Tri-State Corporation, Inc. v. State of Alabama, supra.

The evidence in this case necessitates the finding that the lease from the State of Alabama to Tri-State evidences, on its face, a gross abuse of discretion on the part of the officials acting for the State. The evidence further necessitates this Court’s finding that the officials of Tri-State, including Trawick, knew and understood the conditions of the lease in question. The evidence in the case further necessitates this Court’s finding that the consideration expressed in the lease in question is so grossly inadequate as to shock the conscience, and the inadequacy of the consideration amounts, in itself, to decisive evidence of fraud. In this connection, the evidence is abundant. For instance, the leased property, consisting of 2739.4 acres, had at the time of the execution of the lease from the State of Alabama to Tri-State a fair market value in excess of $1,000,000. The chief engineer for the State of Alabama Conservation Department during the time of the negotiations for, and the execution of, the lease to Tri-State, did not approve the “master plan” of the proposed development on the leased area. Subsequent to the execution of the lease and upon a formal presentation of the master plan, the chief engineer made known his opposition to such a plan. Also subsequent to the execution of the lease, there was cut and removed from the leased premises by The Tri-State Corporation, or its agents, over 300,000 board feet of timber; this timber had a reasonable market value of approximately $10,000. The total amount paid to the State of Alabama for this timber that was cut and removed was $3,421.40. This, of course, was a violation of the provisions of the lease. However, until this litigation was filed, the State of Alabama took no steps to supervise the cutting of the timber or to determine who received the money for the timber that was cut from this State property. The books and records as kept and maintained by The Tri-State Corporation and as required by the lease were inadequate and incomplete. As far as the evidence in this case reflects, the State of Alabama made no effort to examine these books and records until this litigation was filed.

The Supreme Court for the State of Alabama, in analyzing this lease when it was presented to that Court by TriState in its efforts to have the temporary injunction dissolved, reviewed the law applicable in cases such as this one. Of course, what the Supreme Court of Alabama said in Tri-State Corporation, Inc. v. State, supra, was upon the assumption that the State of Alabama could prove the allegations of its complaint. This Court finds that the State of Alabama did prove the allegations of its complaint; therefore, the language used by the Supreme Court of the State of Alabama in Tri-State Corporation, Inc. v. State, in analyzing the lease in question, is extremely important. The Court there said:

“If we understand correctly the position of the state, it would have us affirm the decree of the lower court on the theory that the consideration expressed in the lease is so grossly inadequate as to shock the conscience and that the inadequacy of the consideration amounts in itself to conclusive and decisive evidence of fraud. Juzan v. Toulmin, 9 Ala. 662; Mahone v. Williams, 39 Ala. 202; Cleere v. Cleere, 82 Ala. 581, 3 So. 107; Chance v. Chapman, 195 Ala. 513, 70 So. 676.

“The allegations in the bill itself as to fraud, collusion, bad faith, etc., are merely conclusions of the pleader, and if we are to reach the questions of those allegations, it must be done through the exhibits, which are made a part of the bill of complaint.

“The bill shows that the lease can extend for a term of 90 years, and the state is to receive 4% of the gross receipts realized by Tri-State from revenue-producing facilities, businesses, activities and buildings, or other improvements located and/or operated on the premises, including the receipts from subleases. The bill further shows that Tri-State agrees to expend, or to cause to be expended, a total amount of not less than $150,000 on permanent improvements on the premises within 5 years from and after the execution of the lease.

“Tri-State is owned principally by Trawick and Baroco. Exhibit ,‘D’ to the bill shows that the consideration for the sublease from Tri-State to Trawick to be 5% of his, Tra-wiclc’s, gross receipts. The sublease to Trawick includes the property on which the motel is located and is the first revenue-producing part of the property, and is, practically, the fulfillment of Tri-State’s obligation to expend, or cause to be expended, the sum of $150,000. Therefore, instead of the state receiving 4% of the gross receipts on all revenue-producing property, it only receives 4% of the 5% which Tri-State receives from Trawick, thereby reducing the return to the state from 4% to %o of 1%.

“The bill charges that this diminution of a consideration to the State of Alabama resulting from the sublease between Tri-State and Tra-wick, as an individual, and who is a stockholder and director of TriState, shows fraud on the part of the respondents.

“The bill further shows that TriState has, under the terms of its lease, the right to sublease the remaining property leased by the state to it. There is nothing in the lease to Tri-State to prevent it from subleasing all, or any part, of the remaining property on any percentage basis that it may wish, and thus reduce the state’s income from the property to an absurdity. Such a situation does shock the conscience of the court when taken in connection with the provisions of the lease to Tri-State to the effect that the state cannot improve its own land for 90 years without the written consent of Tri-State.

“It is true that Tri-State is obligated to expend, or cause to be expended, the sum of $150,000 on the property leased by it during the first 5 years of the lease. It is not obligated to expend any other sum whatever over the next 85 years, and the state cannot improve the property without the written consent of Tri-State. We note here that approximately $150,000 has already been spent under the sublease to Trawick (the motel property) which covers just a few acres, leaving more than 2,700 acres of the state’s land which Tri-State is under no obligation to develop, and the state cannot develop it without the written consent of Tri-State for 90 years.

“We have demonstrated that under the sublease to Trawick, who is a stockholder and director of TriState, the Tri-State Corporation would, in reality, reap the benefits of the entire transaction and the state would receive little or nothing.

“It is true that the sum of $25,000 was paid in cash upon the execution of the lease, but a qualification is attached to this payment. While the lease provides that the state is to receive 4% of the gross receipts, it is provided that Tri-State would pay only 2% of the gross receipts ‘until such time as the state had received from Tri-State Corporation at the rate of 2% the total amount of $25,000.’ That, in effect, is a credit of the $25,000 bn the amount the state is due to receive. Thereafter, Tri-State would pay 4% of its gross receipts. Two per cent of the 5% received from Trawick, until the total amount of $25,000 is used up, or paid back, and the 4% of the 5% the state is to receive thereafter, clearly demonstrates that Trawick is merely taking from one pocket and putting into another of his and Baroco’s pockets. Just how long would be required, at the rate Yio of 1% of the gross receipts of the motel property, to accumulate the sum of $25,000? And it is to be remembered that the expenditure requirement of $150,000 has practically already been made on the hotel property, and under the lease to Tri-State no other expenditure is compulsory. The lease to TriState making possible such a lease as the one to Trawick, and other subleases of like kind, or for even less returns to the state, show gross abuse of discretion on its face on the part of officials acting for the state. On demurrer, we must assume that the state officials knew the contents of the lease to Tri-State.”

The attempt on the part of Tri-State to save this lease by asking this Court (if this Court construes the lease so as to provide for diminution of rents in the event of a sublease — and this Court does so construe it) to reform the lease so as to eliminate the “diminution or reduction in rent” provision, must fail. There is no evidence in this case that the Governor of the State of Alabama, who authorized and approved this lease, considered the diminution clause a mutual mistake. As a matter of fact, plaintiff, in response to certain requests for admissions, denied that there was a mutual mistake on the part of the State officials. This Court now specifically finds that it was the intent of the parties that the State of Alabama was to receive from The Tri-State Corporation only a percentage of the income realized by TriState. To put it another way, as to the percentage of income the State was to receive under this lease, there was no intent different from the express provisions of the written lease and therefore there was no “mutual mistake” that requires or even justifies a reformation of the lease. Brumfield v. Hall, 215 Ala. 515, 110 So. 898; Grove v. Robertson, 255 Ala. 346, 51 So.2d 528. Thus, it is very readily apparent that the lease as' written and as intended to the extent that it provides that the State of Alabama is to receive a “percentage of a percentage” of the income received by The TriState Corporation, makes it possible (and from the lease of the motel property from Tri-State to Trawick, likely) that the State’s income from the leased property will be reduced to an absurdity.

There is no question but that a court of competent jurisdiction has the power to reform a lease. Sunshine Grain Co. v. United States Fidelity & Guaranty Co. et al. (5th Cir., 1959), 270 F.2d 777. See also Title 9, § 59, and Title 47, § 136, Code of Alabama, Recompiled 1958. However, for the reason already set out, the theory of reformation is not here applicable. In addition, this Court further finds and concludes that a reformation of the diminution clause would not cure another part of the lease which is shocking to the conscience of the Court; that is, that portion of the lease making it necessary for the State of Alabama to secure Tri-State’s written consent before the State could make any improvements on any portion of the 2739.4 acres of land covered by the lease agreement. The development of this property as proposed by Tri-State’s master plan and as indicated by the “improvements” made on the property by Tri-State, its agents and sublessee, could have effectively excluded any beneficial use and enjoyment of this property by the general public for a term of ninety years. Nor would reformation correct that feature of the lease which evidences a gross abuse of public trust by attemping to agree that if The Tri-State Corporation pays any ad valorem taxes at all, it may reduce its rental payments by that amount. In this connection, see § 211, Constitution of Alabama 1901; State v. Alabama Power Company, 254 Ala. 327, 48 So.2d 445, and Attorney General’s Opinion, Vol. 90, Quarterly Report, page 10. As to the request by Tri-State and Trawick that this Court reform that part of the leas© relating to diminution in rents in the event of subleases, this Court finds spe-. cifically, first, that there was no mutual mistake; second, that the party ag--grieved was the State of Alabama and the State of Alabama is not seeking-reformation; and, third, that reforma-, tion of that feature of the lease alone would not save the lease in that the other two features, just referred to above, reflect that the action of leasing the premises involved constitutes a gross abuse of discretion on the part of the public officials who executed the lease for the State and a breach of trust on the part of said officials who were acting, pre.--sumably, in the public interest.

As to Tri-State’s contention that-the State of Alabama is now estopped to. take the position that the transaction was fraudulent, this Court finds that no facts have been shown in this case which would justify or require the invocation of this, doctrine. In any event, estoppel does not apply to the government or govern-» mental agencies. County Board of Ed-. ucation of Coffee County v. City of Elba, 273 Ala. 151, 135 So.2d 812, and the cases therein cited.

Finally, in making an application •of the facts disclosed by the evidence in this case to the law as set out in Tri-State v. State, supra, this Court must conclude that the lease in question and, •of necessity, the sublease from Tri-State to Trawick are void because of fraud that is to be inferred from all the facts and circumstances surrounding the transactions and because of the gross abuse of discretion on the part of public officials •that is so apparent from these same facts •and circumstances.

As to the equities of the various parties in this case, this Court finds that the reasonable value of the improvements