## Facts

- Promoters organized Automobile Finance Company as a Delaware corporation with 20,000 common shares and 20,000 preferred shares (par $10); only common carried voting power.
- A separate Delaware corporation, Central Security Company, was organized at about the same time by the same promoters and later held nearly all the common stock.
- At the first board meeting (with “dummy” directors), the promoters offered to assign a business “plan” and to devote themselves to establishing the business in exchange for 20,000 common shares as “full paid and non-assessable.”
- The board adopted a resolution declaring the plan and promised efforts to be worth $200,000 (the par value of the common stock) and authorized issuance as directed by the promoters.
- Nearly all common shares were issued to Central Security; small amounts were issued to individual promoters, and the incorporators’ shares were transferred so Central Security held all but a nominal remainder.
- Central Security became the exclusive selling agent for the corporation’s preferred stock, selling preferred at par and distributing common shares to purchasers as a stated “bonus,” including additional “bonus” common to purchasers who became directors.
- Plaintiffs, preferred shareholders who received “bonus” common, sued in equity to cancel the common stock, alleging it was issued without lawful consideration and therefore illegally “watered.”

## Issues

1. Whether common stock may be issued as “fully paid and non-assessable” in exchange for a business plan and a promise of future services.
2. Whether a board resolution declaring non-cash consideration to equal par value is conclusive where promoters effectively control the issuance.
3. Whether preferred shareholders could obtain equitable cancellation of common stock allegedly issued without lawful consideration.

## Decision

- The Court of Chancery held the common stock issuance was invalid to the extent it purported to treat shares as fully paid based on future services and an insubstantial plan rather than present value.
- The court ruled that a directors’ declaration of value in this setting was not conclusive and could be examined for lack of genuine consideration and self-dealing.
- The court granted equitable relief against the improperly issued common stock (including cancellation or equivalent protective relief).

## Legal Principles

- Stock represented as “fully paid and non-assessable” must be issued for money, property actually received, or completed services (“labor done”); a mere promise of future services is insufficient.
- A vague or non-substantial business “plan,” without real present value transferred to the corporation, does not satisfy lawful consideration requirements for a fully paid issuance.
- Courts in equity will scrutinize promoter-driven capital structures and insider valuations, and will disregard formal recitals where the corporation did not receive real value.
- Issuances that place control and residual equity in insiders without equivalent value constitute impermissible “watered stock” and are subject to equitable remedies.

## Conclusion

The court treated the promoters’ acquisition of nearly all common stock for an asserted plan and unperformed future services as unlawful consideration for a fully paid issuance, held the board’s valuation reviewable, and ordered equitable relief to protect the corporation and investors from watered stock.


Scully v. Automobile Fin. Co., 109 A. 49 (Del. Ch. 1920)