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discussing the process that should be used for evaluating assets, including stock
Summary of this case from Gold v. Coenen (In re Trans-Indus., Inc.)Opinion
Civil Action No. 3:98CV241.
August 25, 2000.
MEMORANDUM OPINION
This matter is before the Court for final judgment following a non-jury trial. The Court previously announced its verdict at the conclusion of oral argument which was held after the preparation of the trial transcript and the submission by counsel of proposed findings of fact and conclusions of law. The Court sets forth herein its factual and legal conclusions in support of the verdict for the Defendants.
PROCEDURAL HISTORY
The matter involves a derivative action under the Employee Retirement Income Security Act of 1974 (ERISA or Act), 29 U.S.C. § 1001-1461, with appropriate jurisdiction in this Court. The action was brought by Plaintiffs who are former employees and past participants in a 401(k) Retirement Plan (Plan) against their former employer and Plan Administrator, The McGraw Group, Inc. (McGraw), and its President, Chief Operating Officer, majority stockholder, and Plan Trustee, George Sydnor, Jr. (Sydnor). The allegations, as amended, allege various breaches of fiduciary duties by the Defendants which focus on the alleged imprudent and self-dealing conduct of Sydnor that resulted in the dissipation of Plan assets to the detriment of Plan participants, including the Plaintiffs. Requested relief includes monetary, equitable and remedial relief as provided for in § 1109 of the Act.
The district court originally dismissed the action pursuant to Fed.R.Civ.P. 12(b)(6) on the basis that the allegations consisted of claims for benefits under the subject Plan that thereby required "exhaustion of the internal plan provisions before Smith could bring an action in federal court." Smith v. Sydnor, 184 F.3d 356, 357 (4th Cir. 1999), cert. denied, ___ U.S. ___, 120 S.Ct. 934 (1999). The Plaintiffs appealed and the court of appeals reversed and remanded the case to the district court, holding that the requirement for exhaustion of administrative remedies did not apply to maintaining an action for alleged breach of fiduciary duties and other bad acts in violation of ERISA as opposed to a denial of benefits because of an alleged misinterpretation or misapplication of plan provisions. Id. at 357-358.
On remand, the district court denied a second motion by the Defendants to dismiss the Complaint as amended and permitted the Plaintiffs to file a second amended complaint. The Plaintiffs then sought a clarification of their status to maintain the suit as a derivative action and the district court took the motion under advisement, staying all further trial proceedings (not discovery) pending resolution of the Defendants' petition to the United States Supreme Court for a writ of certiorari from the prior decision of the court of appeals. The district court thereafter granted the Plaintiffs' motion for clarification of their status following the Supreme Court's denial of the Defendants' petition, the district court holding that the Plaintiffs had standing to bring the suit and that the matter could proceed as a derivative action without the necessity of it being certified as a class action pursuant to Fed.R.Civ.P. 23.1.
The case was thereafter referred to this Court for the resolution of all pretrial matters and subsequently for final disposition following full consent by all parties to the Court's jurisdiction pursuant to 28 U.S.C. § 636 (c)(1). The Defendants thereupon moved for summary judgment or, in the alternative, for reconsideration of the district court's earlier decision regarding the Plaintiffs standing to bring the action and its status as a derivative suit without class certification. The Court denied the motion following the submission of memoranda and oral argument. The matter thereafter proceeded to trial which was held without a jury over two days. The Court denied the Defendant's motion(s) for judgment as a matter of law during the trial phase, but ultimately announced its verdict in favor of the Defendants at the conclusion of oral argument after trial and following the submission of proposed findings by both parties.
In its brief order denying the Defendants' motion, the Court indicated it would address the reasons for its resolution of the motion in a subsequent memorandum opinion. The reasons set forth herein for granting ultimate relief to the Defendants are intended to encompass the Court's rationale for its earlier decision.
The parties agreed to a post-trial submission of proposed findings of fact and conclusions of law at the Court's suggestion in order to make specific reference to the trial record, including the transcript of witness testimony.
FINDINGS OF FACT
A detailed discussion of the facts as found by the Court is appropriate, not only to substantiate the Court's ultimate conclusion, but also because of the long and complex history of the matter which deserves careful and thorough analysis. The Court's findings incorporate or paraphrase many findings as proposed by the parties and adopted by the Court based on its own review and analysis, the Court concluding that it is not necessary to redraft language for only the sake of originality.
On December 29, 1989, McGraw adopted the Amended and Restated Articles of Incorporation (the Articles). (Pl.'s Ex. 1.) The Articles converted the stock held by the ESOP into preferred stock. Under the Articles, only the ESOP and its participants could hold the preferred stock. The Articles defined the preferred stock's dividend rights, redemption features, conversion options, voting rights, liquidation or dissolution preference and anti-dilution rights. Under the ESOP and the subsequent 401(k) Plan (Pl.'s Ex. 6), an employee with allocated preferred stock could receive preferred stock as a distribution upon leaving McGraw or force the corporation to redeem the stock ("put" the stock) at a set price. Upon any redemption of preferred stock, the Articles required that all cumulated, but unpaid dividends also had to be paid by McGraw to the departing Plan participant. (PL's Ex. 1 at 5.)
At the same time, the Articles gave McGraw the option to redeem the preferred stock. The redemption price was a set price per share depending on whether the original ESOP loan was paid before the redemption date of September 19, 1996. (Pl.'s Ex. 1.) The original ESOP loan was, in fact, paid in full in 1992. (Pl.'s Ex. 15 and 16.) Consequently, from that time forward, the Articles provided that McGraw had to pay no less than $260.31 per share, plus all cumulated but unpaid dividends upon any redemption of the preferred stock if the equity value of the Company allowed for such an allocation. The fair market value for the equity in McGraw was determined each year by Willamette Management Associates, a financial consulting firm (Willamette), and that annual valuation determined how much Plan participants would be paid upon their departure from the Company for the preferred shares allocated to their accounts. (Tr. at 235.)
The Articles also provided that the holders of preferred stock be entitled to a preference out of any surplus of funds at $260.31 per share, plus all cumulated but unpaid dividends, upon dissolution, liquidation or distribution.
In each successive year from 1990 through 1995 after the ESOP was converted into the Plan, all the equity value of McGraw was allocated as a result of the Willamette appraisals to the preferred shares and none to the common stock, the assigned redemption value never reaching the amount ($260.31) set forth in the Articles. (PI.'s Exs. 9-14.) Thus, any emphasis placed on the valuation of the preferred stock as prescribed by the Articles for the purpose of determining its value as of September 1996 is illusory at best.
In 1992, McGraw received an unwanted offer to purchase the preferred stock in the ESOP. (Pl.'s Ex. 15.) Subsequent to the offer, and as a possible consequence of it, McGraw's Board of Directors decided to redeem all of the unallocated shares in the ESOP and to convert the ESOP into a 401(k) plan. At the time of this transaction, Sydnor and Fisketjon felt they had a conflict of interest as trustees because their personal interests (each owning 50% of the common stock) could be affected. (PI.'s Ex. 15 at 3.) Therefore, McGraw decided to retain an independent trustee to act on behalf of the ESOP in determining whether the unallocated shares of preferred stock should be converted to class A common stock or redeemed and to determine whether "the redemption price offered by the Company constitutes adequate consideration." (Pl.'s Ex. 15 at 4.)
On January 1, 1993, the ESOP was converted into the 401(k) Savings Plan and Trust. (Pl.'s Ex. 6.) At all relevant times, Sydnor was a trustee and fiduciary with respect to the ESOP and later the Plan within the meaning of ERISA. McGraw was the administrator of the Plan and was also acting as a fiduciary with respect to the Plan. (Joint Written Stipul'ns.) Fisketjon was the Chairman and Chief Executive Officer of McGraw and served as co-trustee of the ESOP and later the Plan until September 27, 1996 when he resigned from all positions. (Tr. at 403.)
By 1996, McGraw was in financial trouble causing Sydnor to actively seek a buyer or investor for the Company. Two basic considerations appear to have motivated him. First, the Company was heavily in debt and needed additional capital to operate profitably. It was felt that the fundamentals of the business were sound but that the capital had been drained by two acquisitions the Company made during the 1990's and the expense of the takeover fight in 1992. (Tr. at 404.) Second, Fisketjon, who was non-productive and in failing health, wanted to sell his interest in McGraw. However, Sydnor did not have the personal financial means or desire to invest further in the business and he therefore needed outside capital to purchase Fisketjon's interest. (Tr. at 403-404; Sydnor Dep. at 78, 83, 135.) No contrary evidence of any persuasive nature was offered to the contrary by the Plaintiffs and the Court finds that the decision to seek a recapitalization of the Company was a legitimate business decision.
Any suggestion that Sydnor was motivated by simple greed to seek and consummate the recapitalization is refuted by the terms of the ultimate transaction which required Sydnor to, among other things, convert a substantial debt owed him by the Company ($300,000) into an additional equity position in the ongoing concern which was of dubious vitality and to guarantee a note to Fisketjon to insure his withdrawal from the scene.
McGraw hired a Richmond, Virginia investment banking firm (Ewing Monroe Co.) to try to attract investors. It produced a descriptive memorandum (Pl's Ex. 19) that described the business and provided significant financial information on the Company. In April 1996, Sydnor was introduced to Columbia Naples Capital ("CNC"), a venture capital firm. (Tr. at 375-376.) CNC was looking to buy a company such as McGraw as its first investment. (Tr. at 303.) In June of 1996, Sydnor, on behalf of McGraw, signed a letter of intent with CNC in which CNC agreed to invest $3,000,000 in exchange for 41.81 percent of McGraw's common stock. (Pl.'s Ex. 21.) The letter of intent and the initial financial projections developed by CNC did not include or contemplate redemption of the preferred stock. (Pl.'s Ex. 20.)
CNC was organized to buy manufacturing or distribution companies where it could take advantage of add-on acquisitions and pursue a strategy of "buy and build." Once a company was improved and debt was paid down, CNC's goal was to sell to another buyer or evaluate the opportunity to make an initial public offering within 3 to 5 years. (Tr. at 302.)
The evidence is uncontroverted and otherwise conclusive that McGraw was in extreme financial difficulty at the time CNC entered the picture. Juhous (Joey) Smith, Esquire, McGraw's corporate legal counsel, testified that every aspect of McGraw's financial health was compromised. It was in default of its loan covenants with its senior secured lender, Fleet; it had numerous payables due and owing; it was having continuing failures in meeting income projections; and there was poor employee morale. (Tr. at 261-262; Def.'s Ex. 4C.) Significantly, McGraw was informed by its auditor KPMG Peat Marwick that it would receive a "going concern" opinion for the year ending December 31, 1995, an indication that McGraw would not be able to continue to meet its obligations. (Tr. at 261-262; Defs Ex. 7.) Smith testified that as of August, 1996, there was no evidence that McGraw was achieving profitable operations, positive cash flows or meeting the requirements of debt covenants. (Tr. at 263.) Smith concluded that without CNC's immediate capital infusion, McGraw was going to fail. (Tr. at 318; Tr. at 552.) His dire assessment was concurred in by Sydnor (Tr. At 408) and is fully supported by the evidence.
CNC proceeded to conduct a standard "due diligence" inquiry in the months that followed the execution of the letter of intent and the terms of the proposed transaction underwent revision as a result of the information obtained and the deteriorating condition of McGraw. The first mention of anything involving the preferred stock does not appear to have occurred until the early September 1996 timeframe, within a month of the transaction date that is the focus of the dispute. At that juncture, and consistent with its objective of gaining control, CNC indicated it wanted to explore a buy-out of the 401(k) shares in exchange for a note. (Pl.'s Ex. 31.) As a consequence, Willamette was contacted with regard to the proposal and although it is unclear how the request was made or by whom, a reasonable inference which the court draws is that someone at McGraw (most probably its controller, Vermaaten) asked the Willamette contact (Garber) to offer a so-called fairness opinion regarding current value if the common and preferred stockholders were to receive approximately the same value. What is also clear is that Garber declined to do so for the understandable reason of a potential conflict given his prior evaluations, including a preliminary valuation for 1995 that indicated a value for the preferred stock of $140.66 per share and, as in prior evaluations, zero for the common shares. It is also clear that the parties (McGraw, Sydnor and CNC) then decided to look elsewhere for a "fairness" opinion. (Sydnor Dep. at 247-248, 296-297; Garber Dep. at 24-27).
Among other developments were CNC's refusal to justify the purchase of Fisketjon's common stock for the proposed amount of $2,000,000, the reduction of the amount it was willing to invest in the Company (from $3 million to $2.7 million to $2.4 million), and its insistence on majority control.
Plaintiff argues that the conclusion from this evidence is obvious. Namely, that the company controller, who normally would deal with valuations, contacted Mr. Garber at Willamette to see if he could conduct a valuation to support the proposed transaction and was told that it didn't sound like it was a fair deal to the preferred shareholders because the common stock was receiving significant value. Therefore, the Company and Mr. Sydnor sought a favorable opinion elsewhere. Whether this is true or not is ultimately of no consequence because the analysis under ERISA turns on whether ultimately there was objective "adequate consideration" despite the circumstance of a prohibited transaction.
McGraw and Sydnor also sought separate counsel to learn if the proposed transaction was in fact prohibited under ERISA, to learn if the deal could nevertheless be consummated for adequate consideration, and to evaluate the adequacy of the consideration in light of all the factors facing McGraw in August of 1996. Sydnor thus sought counsel from Jerome Lonnes (Lonnes), attorney and ERISA authority, to serve as an independent ERISA expert and legal counsel, and Charles Merriman (Merriman) of Scott Stringfellow, Inc. (Scott Stringfellow), an investment and financial consulting firm of long standing, to serve as a financial advisor and to provide an "adequate consideration" opinion, Lonnes having advised Sydnor to engage a firm other than Willamette that would be able to provide a totally independent opinion. (Tr. 429, 422, 424.) The Plaintiffs argue that Merriman was chosen because he and/or his firm (Scott Stringfellow) were not disinterested and that he was not qualified to offer the opinion he provided. Although there appears to be some discrepancies between Sydnor's deposition and trial testimony regarding different issues including the circumstances under which Merriman's services were engaged, the Court finds that they are of a de minimus nature that do not serve to impeach Merriman's credibility. The Court also concludes that Merriman was sufficiently qualified to offer the opinion he did, especially in light of the more than sufficient corroborative evidence offered by the Defendants as to the issue of adequate consideration.
It is relevant in evaluating Merriman's opinion to consider the guidance provided by proposed regulations promulgated in the late 1980's by the Department of Labor that include guidelines for the valuation of various assets, including shares of stock held by ESOPs. The regulations (which were a focus in this case) are based on concepts that are the widely-accepted standard for conducting a valuation (Pl.'s Ex. 8.; Garber Dep. at 12-13; Tr. at 165-166), even though they are not mandatory nor dispositive (Tr. 77, 165-166, 484, 472-473) and have never been formally adopted. Merriman testified that he received the proposed regulations from Lonnes and used them as a guide for making his fairness opinion in this case. (Tr. at 126.) The proposed regulations are very similar to Internal Revenue Service Revenue Ruling 59-60 which Merriman used regularly in providing valuations. (Tr. at 121.) Merriman testified that he reviewed various sources of financial information concerning the Company and other information on its current condition. Even though he stated that he read a description of the preferred stock from some source, the Articles are not named in the comprehensive list in his opinion letter of things that he considered and reviewed (Pl.'s Ex. 58) and he did not review any of the prior appraisal reports from Willamette or the draft appraisal received by McGraw on August 27, 1996 indicating a value for the preferred shares as of December 31, 1995 of $140.66 per share. (Tr. at 109.) However, such information was either unnecessary for his analysis or does not otherwise impact on his conclusions. In any event, upon initial review of the proposed transaction, Merriman objected to the Plan exchanging only a note for the proposed purchase price of $70.00 a share because it would expose the Plan participants to too much risk. (Tr. at 115.) As a result of his objection, CNC revised its offer to buy the preferred shares at $70.00 a share in cash (Pl.'s Ex. 56, 57 and 58; Tr. at 124 and 416), a circumstance and sequence of events that weighs significantly in the Court's conclusion that the process that was followed was appropriate and that the consideration that was exchanged for the preferred stock was "adequate." At the same time, Lonnes also rendered advice to Sydnor in connection with the purchase of the preferred stock from the ESOP Trust as well as Sydnor's fiduciary duties and potential liabilities in connection with the proposed purchase. (Tr. Pp. 21-89)
Lonnes was initially given the outline of the proposed transaction and a description of the stock ownership, including the preferred stock as well as the proposed price per share of $70.00. (PI.'s Ex. 36, 50; Tr. at 20-21). Plaintiffs argue that the indication "up front" of desired value fatally compromised any objective analysis by Lonnes. Although the Court initially expressed a similar concern at trial, it became satisfied (and remains satisfied) that such a consequence did not occur because of the thoroughness and mutual collaboration of the respective analysis conducted by each participant in the process. Moreover, the Plaintiffs' critique of various aspects of the process is of no avail. For example, Plaintiffs urge that Lonnes should have placed emphasis on the fact that Willamette declined to offer an opinion as to current value, let alone focus on its prior valuations and the redemption price set forth in the Articles. Lonnes was also examined on his oversight (or lack thereof) of Merriman and the advice he ultimately provided to Sydnor, including that no vote by Plan participants was necessary and that the proposed transaction did not constitute a breach of ERISA or of Sydnor's fiduciary duties. The evidence, however, sufficiently answers all such concerns, aside from the basic premise that the focus is on whether the Defendants reasonably relied on the advice given based on a standard of prudence, not whether the process might have been conducted in a different fashion.
Lonnes spent approximately thirty hours on the assignment, met with Sydnor and otherwise had full access to any information he wanted. (Tr. at 12, 58-59; Pl.'s Ex. 50.) Even though Lonnes understood that Willamette would not give a current valuation report (Tr. at 26), this did not, in his view, prevent him from rendering an opinion. Further, Lonnes did not understand that Willamette was refusing to perform the appraisal for McGraw because it felt that no other conclusion regarding current conditions could be reached; rather he understood only that they declined to offer one. (Tr. at 54.) Lonnes also understood that neither the redemption price stated in the Articles, nor the market value placed by Willamette on the shares as of December 31, 1995, controlled or governed what the fair market value was for the preferred shares on September 30, 1996. (Tr. at 72.) As part of his effort, Lonnes spoke with Merriman on elements that needed to be considered in his fairness opinion, but he did not think it was appropriate to instruct Merriman on how to conduct his analysis. In fact, Lonnes believed that it would be best to have an independent appraiser who approached the transaction with a fresh perspective. (Tr. at 61-62.) Both Smith and the Defendants' expert, David L. Heald (Heald), concurred in this view. (Tr. at 250; Tr. at 480-481.) Lonnes understood that Merriman used the methodology suggested by the proposed regulations to arrive at his opinion. (Tr. at 83.) While Lonnes did not review Merriman's letter by analyzing it in comparison to the proposed regulations item by item, he believed it was sufficient in light of the proposed regulations. (Tr. at 86.). In Lonnes' opinion, with which the Court concurs, the form and/or text of Merriman's letter is less important than whether an appropriate procedure was followed and sufficient effort expended in support of the ultimate conclusion expressed in it. (Tr. at 76.)
Lonnes did not advise Sydnor that a vote by Plan participants was required with respect to this transaction. (Tr. at 68.) In fact, based on Lonnes' expertise in the area of ERISA, it was his opinion that a vote was not required with respect to the offer for these preferred shares. (Tr. at 68.) Both the Defendants' expert (Heald) and the Plaintiffs' expert, Jimmy Lee Huitt (Huitt), agreed that a vote by Plan participants was not required to approve the CNC transaction and Heald testified further that it was not even necessary to communicate with Plan participants about the negotiations for the understandable and reasonable concern that any reaction could disrupt or terminate the process. (Tr. at 480-481; Tr. at 189; Tr. at 480-482.) Most significantly for purposes of analyzing the Defendants' actions in light of a prudence standard, Lonnes believed and told Sydnor at the time that if he rejected the offer to secure $70 per share in cash for the Plan participants and McGraw failed, that Sydnor would, in fact, be exposed to liability for a breach of his fiduciary duty for declining the offer. (Tr. at 69.)
The Court finds the testimony of the defense witnesses Smith and Heald to be especially persuasive in confirming that the steps that were taken by the Defendants in conjunction with the proposed transaction as well as the ultimate result were appropriate, prudent and, indeed, necessary. Heald emphasized the following in support of his opinion which the Court also adopts in support of its conclusions:
The Defendants also offered the testimony of Elyse Bluth, a valuation expert with an investment banking firm. Bluth, in her report (introduced into evidence over objection and relied on by her during her testimony) concluded that the "enterprise value" for McGraw was essentially zero at the time of the September 1996 transaction. Although Bluth referred to the Company's value as its "enterprise value," the bottom line is that in her opinion McGraw was virtually worthless.
(a) McGraw was on the verge of financial failure such that Sydnor was faced with the crucial choice to either accept the only viable offer (and for cash) or face a continually deteriorating situation in which there was little or no likelihood of any value being realized by the preferred stockholders;
(b) Sydnor pursued a thorough process in which he sought and obtained separate legal counsel and valuation expertise;
(c) it is not only common but appropriate for a fiduciary to be told of a proposed amount in order to determine if it constituted adequate consideration under the circumstances
(d) the revision of the terms of the proposal to require cash in place of a note was not only appropriate, but also indicative of the prudence that was exhibited in the process;
(e) the Willamette reports were essentially irrelevant in the determination of present value, given the then-current and far different circumstances of McGraw;
(f) it was appropriate to seek the fresh perspective of a new valuation specialist (Scott Stringfellow) so as to avoid any possibility of taint from prior experience and relationships involving Willamette;
(g) Merriman provided an adequate consideration opinion on the proposed price per share as opposed to a valuation report of the Company and therefore it was not necessary or indeed appropriate to "track" the proposed Department of Labor guidelines (many of which were either inapplicable or unnecessary) as long as the basic concepts employed in them were followed in the analytical process;
(h) not only was it not necessary to communicate with Plan participants as to the terms of the proposal and progress, it would not have been prudent to do so because of the substantial risk that ill-motivated, uninformed, or under-informed parties could jeopardize the process by disclosure, aside from the danger of their premature and unauthorized release of privileged and/or confidential information;
(i) although the engagement of an independent fiduciary was not mandated by ERISA or other applicable authority, such a party would have pursued the same or comparable steps as did Sydnor and, in fact, perhaps not even all of them; and
(j) if the Defendants had rejected the proposal, which was most assuredly CNC's last and the only available offer, Sydnor and McGraw would have been appropriately exposed to a claim of breach of their fiduciary duties.
The main thrust of the Plaintiffs' argument on valuation of the preferred stock (and thereby the basis of their assertions that the Defendants' breached their respective fiduciary duties and otherwise violated ERISA) is that CNC, as the willing buyer, valued the Company at $1.629 million on the eve of the transaction date. Specifically, a CNC principal, Ned Truslow, conducted several analyses and ultimately produced a report with a conclusion regarding valuation that was based on several assumptions. In fact, Truslow testified his opinion included the assumption that McGraw had already eliminated various expenses and inefficiencies as if the transaction and contemplated changes had already occurred. Indeed, if a standard method was used to arrive at present value, taking into account trailing twelve month earnings before interest, taxes, debt and amortization (EBITDA), the ultimate valuation would have been a negative $1.563 million. (P1.'s Ex.5 1.) of special interest to the Court in this regard is the clear notice purposely placed on the valuation by its own creator, Mr. Truslow:
Analyst's Note: This valuation is extremely generous for two specific reasons. First, a multiple of 6 times Net Operating Cash Flow is a very high price to pay for a slow growing, low margin business like James McGraw. Second, this valuation uses a multiple of an adjusted NOCF figure that gives credit to the trailing 12 month EDITDA for changes to be made in the future by CNC. The actual trailing 12 month EBITDA figure (see attached) is $1,451,000, which, at the 6 times multiple, gives a total enterprise value of $8,706,000. This implies an equity valuation of Negative $1,563,000.
(Pl.'s Ex. 51.)
This qualification firmly and conclusively discredits any meaningful reliance on it by the Plaintiffs as a reliable measure of the fair market value of McGraw as of the transaction date.
CONCLUSIONS OF LAW
ERISA regulates life, health, disability and pension benefits provided by employers to employees pursuant to employee benefit plans. By enacting ERISA, Congress sought, inter alia, to protect the interests of participants and beneficiaries and to "improve the equitable character and the soundness of [private pension] plans" by regulating their design and operation. 29 U.S.C. § 1001 (b) and (c). Accordingly, the actions of a person who serves as a fiduciary to a plan are subject to scrutiny under the Act. A person is acting as a fiduciary with respect to a plan:
to the extent (i) he exercises any discretionary authority or discretionary control respecting management of such plan or disposition of its assets, (ii) he renders investment advice for a fee or other compensation, direct or indirect, with respect to moneys or other property of such plan, or has any authority or responsibility to do so, or (iii) he has any discretionary authority or discretionary responsibility in the administration of such plan.29 U.S.C. § 1002 (21)(A).
Sydnor, a trustee of the Plan, and McGraw, the Plan's administrator and sponsor, were, by definition, fiduciaries subject to the standards of ERISA. Dzinglski v. Steel Cop., 875 F.2d 1075, 1079 (4th Cir. 1989), cert. denied, 493 U.S. 919 (1989) (citing Sutton v. Weirton Steel Division of Nat'l Steel Corp., 724 F.2d 406, 411 (4th Cir. 1983)). However, a court must not impose fiduciary obligations on those engaged in decisions made "`when not administering the plan or investing its assets'" and "business decisions can still be made for business reasons, notwithstanding their collateral effect on prospective, contingent employee benefits." Id. In this regard, McGraw's decision to undertake a re-capitalization with CNC, while it, of course, affected all McGraw stockholders, qualifies as an "employer's business decision" that falls outside of the reach of ERISA. Id. The sale of the preferred stock, on the other hand, directly impacted the rights of the Plan participants and is thereby properly the subject of this litigation.
The cash investment by CNC of approximately $2.4 million was effectuated by a series of events, including two separate, although related transactions which took place on September 30, 1996. The first involved the purchase of the preferred stock by McGraw from the Plan. This was a pre-condition to the second transaction. The second involved the purchase of a controlling share of McGraw's common stock by CNC. Because the transaction between McGraw and CNC did not directly involve the Plan, the Defendants argue that they were not acting in their fiduciary capacities in regard to that transaction and therefore ERISA is not implicated. It is an intellectually appealing argument, but an unnecessary one. The simple fact of the matter is that the two transactions were inexorably connected and it would border on the disingenuous to separate them from ERISA analysis. More importantly, when viewed as a total transaction, it remains clear and the Court so holds that the Defendants acted in the interest of the Plan and did not breach their fiduciary duties. If in fact the decision had been made to forego the opportunity to secure recapitalization on reasonable terms satisfactory to the only willing player, CNC, the Court concludes that the Company and thus the Plan itself would have most probably ceased to exist so as to have constituted a clearer case of fiduciary breach than that alleged in this action. See Cosgrove v. Circle K Corp., No. 96-15 164, No. 96-16 148, 1997 U.S. App. LEXIS 3853, at *9 (9th Cir. Feb. 27, 1997) (holding that the trustees were justified in entering into a transaction covered by § 1106 where "the prospect for finding another buyer" of the plan assets "was uncertain"). The Court specifically rejects the argument as urged by the Plaintiffs in argument to the effect that "some deals you just can't do" if it is meant to include the rejection of a reasonable, life-saving proposal.
Standing
The Defendants first challenged the Plaintiffs' standing to bring the action in either their individual or representative capacity after remand on the grounds that the Plaintiffs did not qualify under any of the categories prescribed by ERISA and controlling case law as "any employee or former employee of an employer or any member or former member of an employee organization who is or may become eligible to receive a benefit of any type from an employee benefit plan." 29 U.S.C. § 1002 (7). Specifically, the Defendants argue that neither Plaintiff qualified as a Plan "participant" required to maintain the suit because they elected to receive all of their vested benefits at retirement such that any recovery from successful litigation thereafter could only result in an award of "damages" or related relief. Although such a recovery would bestow "benefits" in terms of favorable relief, any recovery could not be viewed as an award of "benefits" pursuant to the subject Plan of which the Plaintiffs were no longer current or potential participants. ( See Reply Mem. in Supp. of Defs.' Mot. for Summ. J. or, in the Alt., for Recons. of Order of Feb. 24, 2000.)
The United States Supreme Court in Firestone Tire and Rubber Co. v. Bruch, 489 U.S. 101, 117-118 (1989), held that the statute provides for standing to four categories of participants: "(1) employees in currently-covered employment; (2) former employees reasonably expected to return to covered employment; (3) former employees with colorable claims that they will prevail in suits for benefits; and (4) former employees with colorable claims that they will fulfill eligibility requirements in the future." See also, Kuntz v. Reese, 785 F.2d 1410 (9th Cir. 1986).
The Plaintiffs maintained that they had a "colorable claim" as former employees so as to have standing where any recovery of monetary or equitable damages could be allocated by the court to former employees as supplemental distribution of "benefits" that they should have received as Plan participants when they were active Plan participants but for the alleged breach of fiduciary duty and related violations of ERISA by the Defendants. ( See Resp. of Pls. to Defs.' Mot. for Summ. J. or Recons.) Stated another way, the Plaintiffs maintain that as participants in the Plan they were beneficial owners of Plan assets and that they suffered a loss of "benefits" when the Defendants breached their fiduciary duties by engaging in a "prohibited transaction" and related acts which resulted in Plan assets (preferred stock) being sold for less than "adequate consideration." Id.
The Plaintiffs also seek to rely on case precedent, including the Fourth Circuit case of Davis v. Featherstone, 97 F.3d 734 (4th Cir. 1996), for the proposition that a former employee has standing under ERISA if there is a "colorable claim" that the employee would prevail in a suit for what is really one for increased benefits. Id. at 2. The Defendants respond by distinguishing such precedent on the basis that it dealt with what constitutes a "colorable claim" as opposed to the arguably more relevant issue of whether the action was one for "damages" or "benefits." (Reply Mem., at 6-7.)
Whether or not the issue involving the Plaintiffs standing and their capacity to sue in a representative capacity could or should have been raised as at least an alternative argument when the matter was initially reviewed by the district court so that it could be definitively addressed by the court of appeals in its opinion, it was not. Nevertheless, the court of appeals appears to have subsumed or assumed the Plaintiffs' standing in order to hold "that Smith's amended complaint alleges facts that, if proven, establish breaches of fiduciary duties by McGraw and Sydnor independent of a denial of benefits." Smith v. Sydnor, 184 F.3d at 357. The court of appeals also conclusively found that the Plaintiffs had not only sufficiently pled "valid claims for breach of fiduciary duties" based upon an interpretation and application of ERISA rather than the Plan, but also the claims included the type of requested relief which properly established the suit as a derivative action on behalf of others as well as the individual plaintiffs. Id. at 363.
The Court reiterates the same holding elsewhere in the opinion.Id. at 362-363.
Such as the disgorgement of profits and the recission of the sale of the preferred stock.
However persuasive the Defendants' argument may appear to be, this Court concludes, as did the district court on remand, that the issues of standing and the status of the action were firmly resolved in the earlier appeal of the dismissal in this case. The decision simply cannot be interpreted any other way within reason. The Defendants' continuing objections therefore remain OVERRULED and otherwise DENIED as confirmed in the district court's order of February 24, 2000, and this Court's subsequent order on reconsideration of May 5, 2000.
The issue is effectively rendered moot by the ultimate verdict in favor of the Defendants, but that consequence is not a basis for the Court's ruling.
Although the Plaintiffs have standing to maintain the action, not all of their claims are cognizable in this Court, at least in the form as presented. The McGraw 401(k) Plan is an "employee benefit plan" subject to ERISA. 29 U.S.C. § 1003 (a)(1); Plan at 1. ERISA preempts any state laws as they relate to the Plan. 29 U.S.C. § 1144 (a); Stiltner v. Beretta U.S.A. Corp., 74 F.3d 1473, 1480 (4th Cir. 1996), cert. denied, 117 S.Ct. 54 (1996). See also Hand v. Church Dwight Co., Inc., 962 F. Supp. 742, 743 (D.S.C. 1997) (quoting 29 U.S.C. § 1144 (a), "ERISA preempts `any and all State laws insofar as they may now or hereafter relate to any employee benefit plan.'"). Furthermore, "[a] state-law claim `relates to' an ERISA plan is pre-empted, `if it has a connection with or reference to such a plan . . .'" Stiltner, 74 F.3d at 1480 (citing Shaw v. Delta Air Lines. Inc., 463 U.S. 85, 97 (1983)). Moreover, "a state law may `relate to' a benefit plan, and thereby be pre-empted, even if the law is not specifically designed to affect such plans, or the effect is only indirect." Ingersoll-Rand Co. v. McClendon, 498 U.S. 133, 138-39 (1990) (citations omitted). As a result, Plaintiffs' breach of contract and ultra vires claims (Counts 111 and IV) are preempted by ERISA, and any contract obligations that "relate to" the Plan are enforceable only to the extent they were part of the Plan itself. Elmore v. Cone Mills Corp., 23 F.3d 855, 860 (4th Cir. 1994). Thus, to the extent Plaintiffs might seek to enforce perceived "contract" rights allegedly created by McGraw's Articles of Incorporation, those claims are also preempted and analyzed only in the context of potential ERISA violations.
Fiduciary Duties of Trustees
In enacting ERISA, one of the congressional goals was to establish fiduciary standards. Under 29 U.S.C. § 1001 (b), Congress articulated its goal by "establishing standards of conduct, responsibility, and obligations for fiduciaries of employee benefits plans" as one of the main objectives of the Act. The general duties of ERISA fiduciaries are defined in § 1104. Specifically, ERISA imposed upon the Defendants in this case the relevant requirements: (1) to
act solely in the interest of Plan participants (§ 1104(a)(1)); (2) to act prudently (§ 1104(a)(1)(B)); (3) to diversify plan investments (§ 1104(a)(1)(C)); and (4) to act consistently with plan documents (§ 404(a)(1)(D)). The latter two fiduciary duties are not at issue in this action as there is no allegation that the Defendants failed to diversify Plan investments or failed to act in accordance with the Plan documents.
The actions of trustees in acting in their fiduciary capacities where they have discretionary powers are judged by an "abuse of discretion" standard. See Booth v. Wal Mart Stores, Inc., 201 F.3d 335, 341-342 (4th Cir. 2000) (defining the standard in this federal circuit by which to measure a fiduciary's discretionary decision and mandating total abandonment of the `arbitrary and capricious standard' in reviewing fiduciary determinations). Therefore, to establish that Defendants breached their fiduciary duties under § 1104, Plaintiffs carry the burden of proving that Defendants abused their discretion as plan fiduciaries. See de Nobel v. Vitro Corp., 885 F.2d 1180, 1185 (4th Cir. 1989).
Although Booth involved a distinguishable scenario involving a fiduciary's discretion in making decisions regarding plan benefits, the court's discussion encompasses the standard for reviewing all fiduciary discretionary actions.
Congress indicated that the courts should interpret and apply ERISA's fiduciary standards "`bearing in mind the special nature and purpose of employee benefit plans.'" Donovan v. Cunningham, 716 F.2d 1455, 1464 (5th Cir. 1983), cert. denied, 467 U.S. 1251 (1984). A fiduciary's obligation is not diminished by its dual role as corporate officer and trustee.Sutton v. Weirton Steel Div. of Nat'l Steel Corp., 724 F.2d 406, 410 (4th Cir. 1983), cert. denied sub nom. Brunner v. Nat'l Steel Corp., 467 U.S. 1205 (1984) and cert. denied, Sutton v. Weirton Steel Div. of Nat'l Steel Corp., 467 U.S. 1205 (1984). ERISA § 1104(a)(1) requires a fiduciary to act solely in the interest of Plan participants which serves to "`insulate the trust from the employer's interest,'" and a fiduciary may not assume a position where it has dual loyalties in the administration of the plan. Id. at 410; but see Donovan v. Bierwirth, 680 F.2d 263, 271 (2d Cir. 1982), cert. denied, 459 U.S. 1069 (1982). ("ERISA contemplates that fiduciaries sometimes occupy positions giving rise to dual loyalties . . .").
ERISA § 1104 incorporates and reflects core principals of fiduciary conduct developed under common law and codified in both federal and state statutes. See Firestone Tire Rubber Co. v. Bruch, 489 U.S. at 109-111; Faircloth v. Lundy Packing Co., 91 F.3d 648, 656 (4th Cir. 1996) (stating that ERISA's fiduciary duties evolved from the common law of trusts); see, e.g., Hoffman v. First Virginia Bank of Tidewater, 263 S.E.2d 402, 406 (Va. 1980) (under the "prudent man rule," as codified in Va. Code § 26-45.1, an administrator, trustee, or other fiduciary, both individual and corporate, "shall exercise the judgment of care under the circumstances then prevailing which men of prudence, discretion and intelligence exercise in the management of their own affairs."). A fiduciary is required by ERISA § 1104(a)(1)(B) to discharge his duties "with the care, skill, prudence and diligence under the circumstances then prevailing that a prudent man . . . would use" which means that a "trustee acts judiciously, then, in hesitantly exercising an ambiguous power." Bidwill v. Nat'l Football League, 943 F.2d 498, 507 (4th Cir. 1991).
Prior to enactment of ERISA,
[T]he Internal Revenue Service has developed general rules that govern the investment of plan assets, including a requirement that cost must not exceed fair market value at the time of purchase, . . ., and the safeguards and diversity that a prudent investor would adhere to must be present.
H.R. CONF. REP. No. 1280, 93d Cong., 2d Sess. 302 (1974), reprinted in [1974] U.S. CODE CONG. ADMIN. NEWS 5038, 5083.
See also Sturgis v. Stinson, 241 Va. 531, 537, 404 S.E.2d 56, 60 (Va. 1991) ("Although the management discretion afforded a trustee under the Code of Virginia is extensive . . ., that discretion is subject to the requirements of the `prudent man rule,' Code § 26-45.1");Goodridge v. National Bank of Commerce of Norfolk, 200 Va. 511, 513, 106 S.E.2d 598, 600 (Va. 1959) (under the "prudent man" statute a trustee "must exercise that degree of care and judgment which persons of ordinary prudence and reasonable discretion exercise in the management of their own affairs."); Royall v. Peters, 180 Va. 178, 189, 21 S.E.2d 782, 787 (Va. 1942) ("The duty of the receiver was that of a trustee. He should have acted with the same prudence and diligence that a reasonably prudent man uses in the exercise of his own affairs.").
The Defendants argue that Plaintiffs are required to prove that no ERISA fiduciary could reasonably have made the same decision as the one the Defendants made with regard to the sale of the ESOP stock. See Kuper, 66 F.3d at 1447. See also Glennie v. Abitibi-Price Corp., 912 F. Supp. 993, 1001 (W.D. Mich. 1996) ("Even if a fiduciary fails to make an adequate investigation, that fiduciary is not liable if a hypothetically prudent fiduciary would have made the same decision after making an adequate investigation."). In addition, Defendants argue Plaintiffs would have to prove that any lack of prudence by the fiduciaries in investigating the proposed transactions at issue here was the cause of some loss attributable to this transaction. See Kuper, 66 F.3d at 1459. Plaintiffs argue, however, that "the burden of proof is on the party seeking to claim the statutory exemption to show that all of the requirements of the provision are met" under the proposed regulations.
The Plaintiffs are partially correct in that "to avoid liability for a prohibited transaction under [§ 1106, the Defendant] bears the burden of proving the transaction was for adequate consideration in compliance with [§ 1108(e)]." Elmore, 23 F.3d at 864. As a practical matter, because all agree that the re-capitalization by CNC caused the sale of the preferred stock in the Plan which amounted to a prohibited transaction, the Court will only examine whether the evidence shows that a prudent fiduciary would not have made the sale of the preferred stock by the Plan to McGraw. In other words, the Court would have to find that a hypothetical prudent fiduciary could not have made the same objective decision to sell the ESOP stock at a price of $70 per share in cash after taking into account everything that should have been known at the time of the transaction. Booth v. Wal Mart Stores, Inc., 201 F.3d at 341. To reach this decision, the Court will examine the factors relevant to this fiduciary's decision in this transaction pursuant to a Booth analysis, namely: (1) the language, purpose and goals of the Plan; (2) the adequacy of materials considered in making the decision; (3) whether the decision-making process was reasoned and principled; (4) whether the decision was consistent with ERISA; (5) other external standards, such as the proposed regulations, relevant to the exercise of discretion; (6) whether there was adequate consideration considering fair market value and relative fairness; and (7) the fiduciary's motives and any conflicts of interest. Id. at 342-343.
The Language, Purpose and Goals of Plan
Even though this case is not about whether Sydnor acted inconsistently with Plan documents, the Plaintiffs focus on the Articles and the history of the origin of the Plan as a measure by which to analyze the Defendants' conduct. The Plan's predecessor, the ESOP, was initially established to provide a means by which McGraw employees would accumulate a retirement benefit and as a mechanism to finance a buyout of the Company by Sydnor and Fisketjon. (Tr. at 234.) The history of the Plan does not alleviate the fiduciary's responsibilities or its status under ERISA; however it does shed light on the development of the Articles and especially the significant redemption and "put" rights of the preferred stockholders. While it is clear that the bundle of rights provided in the Articles were to inure to the benefit of Plan participants, the transaction in question was not one that evolved under the Plan itself and therefore the so-called "bundle of rights" is subsumed by the analysis required by §§ 1104 and 1106 of the Act.
Although a Prohibited Transaction, Sale of Preferred Stock was a Contemplated Exemption under ERISA
In addition to the general fiduciary duties codified in § 1104, ERISA incorporates a list of transactions which are prohibited per se. These types of transactions are specifically prohibited because they are perceived as creating a high potential for abuse in the context of employee benefit plans. See Cunningham, 716 F.2d at 1464-65. Particularly, ERISA § 1106(a) prohibits a fiduciary from engaging in a sale, lease, or exchange of a plan property between the plan and a party in interest. 29 U.S.C. § 1106 (a)(1)(A). "Party in interest" includes any fiduciary, employer of employees covered by the plan, or officer or director of such employer. 29 U.S.C. § 1002 (14). Here, McGraw was a "party in interest" with respect to the purchase of the preferred shares from the Plan and, therefore, the transaction was a "prohibited transaction" subject to § 1106 of the Act.
However, ERISA § 1108(e) provides for an exception to the rule if the transaction in question is for adequate consideration, no commission is charged, and the ERISA plan is an individual account plan. 29 U.S.C. § 1108 (e). Plaintiffs never alleged, let alone established, that Defendants, or any other party involved, charged a commission. Furthermore, the Plan is an individual account plan. Thus, McGraw did not violate § 1106 if adequate consideration was paid for the stock.
The Price Paid for the Preferred Stock was Adequate Consideration
"Adequate consideration" is defined as fair market value. Under ERISA, in the case of an asset other than a security for which there is a generally recognized market, adequate consideration is defined as "fair market value as determined in good faith by the trustee or named fiduciary pursuant to the terms of the plan and in accordance with regulations promulgated by the Secretary [of Labor]." 29 U.S.C. § 1002 (18)(B). Fair market value is the price at which property would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy, and the latter is not under any compulsion to sell, and both parties are able and willing to trade and are well informed about the asset and a market for such asset. Id. There was no generally recognized market for McGraw's securities and the willing buyer in this case was a nascent venture capital firm anxious to make its first investment and the willing seller was a company on the eve of destruction. Thus, "fair market value" as of the transaction date cannot be determined simply by reliance on the redemption amount set forth in the Articles or the Willamette and CNC valuations.
Redemption Amount (From Articles), Draft 12/31/95 Valuation Figure (from Willamette) and CNC Valuation Not Determinative of 9/30/96 Fair Market Value
The redemption amount provided for in the Articles is not determinative of the fair market value of the preferred stock sold by the Plan because the Articles are pre-empted by ERISA to the extent they relate to the ERISA-governed plan. Therefore, at the time McGraw offered to purchase the preferred stock from the Plan, the preferred stock had to be valued for purposes of adequate consideration under ERISA and not by the redemption figure called-for in the Articles. Unfortunately for the Plan participants who relied on the redemption price in the Articles, ERISA eliminates any dispositive impact of the Articles as setting a price for the preferred stock and adequate consideration "trumps" the price set in the Articles as a matter of law.
Likewise, the draft evaluation of McGraw's equity as of December 31, 1995, performed by Willamette, was irrelevant to the determination of the fair market value of the preferred stock as of the date of the transaction in question between the Plan and McGraw. The Willamette evaluation was made under the assumption of McGraw's liquidation, which, among other things, would have triggered preferential rights of the preferred stock as compared to the common stock.
It is impossible to know what actual amount, if anything, would have been paid to preferred stock holders if the Company failed.
Additionally, where the financial condition of McGraw had significantly deteriorated by the time of the sale of the preferred stock as compared to the condition of the Company as of the applicable period of the Willamette evaluation, such an evaluation cannot be used for the purposes of determining the issue of adequate consideration. See Cunningham, 716 F.2d at 1469-70. For the same reason, the CNC valuation, which was qualified on its face, cannot be relied upon in whole or even in part as a measure of value under the extreme circumstances of the appropriate time period.
Indeed, the proposed regulations themselves suggest a valuation for a transaction such as this should be as of the date of the transaction itself. See 53 Fed. Reg. 17632 (to be codified at 29 C.F.R. § 2510.3-18 (b)(2)(ii)) (proposed May 17, 1988).
The Proposed Regulations were Considered by the Fiduciary, the Materials Considered were Adequate, and the Decisions were Reasoned and Principled
"The court's task is to inquire whether the individual trustees, at the time they engaged in the challenged transactions, employed the appropriate methods to investigate the merits of the investment and to structure the investment." Katsaros, 744 F.2d at 279. Although the Secretary of Labor initially proposed regulations on this subject in May of 1988, they have never been promulgated, see 53 Fed. Reg. 17632, and are not scheduled to be promulgated, see 65 Fed. Reg. 23014 (DOL Semiannual Agenda of Regulations, April 24, 2000). Although the proposed DOL regulation may be used as a "useful paradigm for asset valuation and analysis," Montgomery v. AETNA Plywood Inc., 39 F. Supp.2d 915, 919 (N.D. Ill. 1998), there is no per se liability for failure to follow it, or any other particular document not prescribed by or actually promulgated in compliance with ERISA. See Cunningham, 716 F.2d at 1473 (stating that functionally similar IRS Revenue Ruling 59-60 is no substitute for the never-promulgated regulation; the court must not "hold that ERISA fiduciaries who fail to follow it jot and tittle have breached their fiduciary duties" and the valuation principles "are merely factors to be weighed in each case, not per se rules to be applied reflexively. `No general formula may be given that is applicable to the many different valuation situations arising in the valuation of such stock.'") (citations omitted). This is especially true where "[t]he Government has no duty to promulgate an `adequate consideration' regulation. Title 29 U.S.C. § 1002 (18)(B) defines adequate consideration as "the fair market value of the asset as determined in good faith by the trustee or named fiduciary.' It in no way requires the promulgation of further regulations." Valley National, 837 F. Supp. at 1259.
In the absence of promulgated regulations, however, the U.S. Court of Appeals for the Fifth Circuit has offered a widely-accepted standard for determining adequate consideration:
[T]he adequate consideration test, like the prudent man rule, is expressly focused upon the conduct of the fiduciaries. A court reviewing the adequacy of consideration under Section 3 (18) is to ask if the price paid is "the fair market value of the asset as determined in good faith by the . . . fiduciary;" it is not to redetermine the appropriate amount for itself de novo. . . . ESOP fiduciaries will carry their burden to prove that adequate consideration was paid by showing that they arrived at their determination of fair market value by way of a prudent investigation in the circumstances then prevailing.Cunningham, 716 F.2d at 1467-68.
While making a determination whether a trustee conducted a prudent investigation, the court must focus the inquiry "under the `prudent man' rule on a review of the fiduciary's independent investigation of the merits of a particular investment, rather than on an evaluation of the merits alone." Cunningham, 716 F.2d at 1467. Accordingly, "`the test of prudence — the Prudent Man Rule — is one of conduct, and not a test of the result of performance of the investment. The focus of the inquiry is how the fiduciary acted in selection of the investment, and not whether his investments succeeded or failed.'" Id. (citations omitted).
Securing an independent expert's opinion of a financial advisor or legal counsel is evidence of a thorough investigation. Martin, 965 F.2d at 670-71. In particular, a fiduciary can rely on the independent appraisal performed by the investment banking firm if such appraisal is performed as of the date of transaction. See Cunningham, 716 F.2d at 1468, 1470-71. Additionally, for the purposes of establishing adequate consideration, fiduciaries are entitled to consider the information available to them by virtue of their management position in the company.Id. at 1469. In order for a particular investigation to be reasonable and prudent, a fiduciary must: (1) investigate the expert's qualifications, (2) provide the expert with complete and accurate information, and (3) make certain that reliance on the expert's advice is reasonably justified under the circumstances. Montgomery, 39 F. Supp. at 936.
While the structure of the preferred stock sale which included the protection of Sydnor and his position at McGraw casts a shadow over the transaction, the Defendants did not engage in selfdealing to the extent that such a circumstance invalidates the transaction. Even though it may have obviated this litigation, Sydnor was under no obligation to resign from a position as trustee of the Plan or to seek an independent trustee. Martin, 965 F.2d at 670. Although disfavored when considering transactions involving plan assets, ERISA recognizes that dual loyalties may exist for plan trustees who may act both as fiduciaries and as employers. 29 U.S.C. § 1108 (c)(3); Bierwirth, 680 F.2d at 267. Moreover, the fact that a plan fiduciary may also benefit from a transaction involving plan assets does not constitute a violation of the fiduciary's duties under ERISA so long as the action was taken prudently and in the best interest of plan participants and beneficiaries.Bierwirth, 680 F.2d at 267.
In order to determine whether Defendants breached their fiduciary duties, the Court must consider both transactions that were consummated on September 30, 1996. In the first transaction, McGraw offered $70 per share to buy the outstanding stock of the Plan. McGraw's offer was not a redemption of the preferred stock and did not trigger any right to "put" stock provided for in the Articles of Incorporation. The Plan had received no other offers for its preferred stock, and its clear from all the evidence that had the preferred stock not been sold to McGraw, the recapitalization would have never occurred.
Merriman performed an independent appraisal of the preferred stock for the purposes of determining whether $70 per share was adequate consideration. Merriman possessed sufficient experience and qualifications to perform such an appraisal. While performing his evaluation, Merriman employed the accepted valuation methods and performed the analysis under the proposed regulations which are accepted by the court as the industry standards for the purposes of establishing adequate consideration in this case. (Tr. at 121; 126; 135).
It was appropriate for Merriman to focus primarily on the transaction between McGraw and the Plan in assessing adequate consideration. Cosgrove v. Circle K Corp., 915 F. Supp. 1050, 1060-61, 1064 (D. Ariz. 1995), aff'd, No. 96-15164, No. 96-16148, 1997 U.S. App. LEXIS 3853 (9th Cir. Feb. 27, 1997). As a result of his evaluation, Merriman reasonably concluded that the preferred stock had no value, and that $70 per share in cash was at least (if not more than) adequate consideration. (Tr. at 141-142). Merriman provided the Plan's trustee, Mr. Sydnor, with his opinion and the reasons supporting that opinion. Merriman personally explained the underlying calculations and evaluation methods used by him at arriving at his opinion to Sydnor. (Tr. at 421-422).
In making the determination whether adequate consideration was offered for the preferred stock, Sydnor employed the appropriate methods to investigate the merits of the investment. Donovan v. Mazzola, 716 F.2d 1226, 1232 (9th Cir. 1983), cert denied, 464 U.S. 1040 (1984). Sydnor acted as a prudent trustee in relying on the independent advice of an experienced legal counsel, Lonnes, and appraisal of the preferred stock performed by a qualified financial expert, Merriman, specifically to determine adequate consideration as of the time of transaction. Martin, 965 F.2d at 670-71; Cunningham, 716 F.2d at 1468; Id. at 1470-71;Montgomery, 39 F. Supp. at 936. Sydnor was justified in his reliance on the independent legal advice and the appraisal for the purposes of entering into the transaction between the Plan and McGraw. Defendants acted prudently and reasonably in relying upon the Merriman's opinion which the Court finds established that $70 per share was more than adequate consideration for the preferred stock. See Elmore, 23 F.3d at 864 (the district court's findings "that defendants acted reasonably and prudently in the selection and retention" of an appraiser and "were justified in relying on [the] appraisal . . ." were not clearly erroneous).
Plaintiffs, on the other hand, offered no expert opinion from an independent trustee or from any person versed in ERISA to convince the Court that Sydnor failed to determine adequate consideration in good faith as a reasonable and prudent fiduciary would do under the similar circumstances as required by ERISA. In light of Defendants' evidence, Plaintiffs' allegations are insufficient to establish that less than adequate consideration was paid for the preferred stock. See Kuper, 66 F.3d at 1460.
Fiduciary's Motive to Save the Company and Thereby Protect Plan Assets was Proper despite Personal Conflict of Interest
Although McGraw clearly had a conflict of interest in the sale of the preferred stock, Plaintiffs introduced no evidence of illegitimate motive on the part of either McGraw or Sydnor. To the contrary, Defendants introduced the opinion of their expert, Heald, who testified in a convincing matter that a reasonable and prudent fiduciary would have made the same decision to accept McGraw's offer to sell the preferred stock for $70 per share. In fact, Heald testified that if Sydnor had not accepted CNC's offer, he may have been in breach of his fiduciary duties under ERISA. Thus, the Court finds that there was no evidence establishing that Sydnor abused his discretion while acting as the Plan's trustee for purposes of a § 1104 claim.
The Court concludes that the Defendants acted prudently and reasonably by obtaining separate legal counsel to advise them in their respective roles in the subject transactions and to structure the transactions to be consistent with ERISA and Virginia corporate law. Further, the engagement of an investment and financial consulting firm (Scott Stringfellow) to advise of the fairness or adequacy of the tender offer price of $70 per share demonstrates that the fiduciaries investigated the proposal with the care required under ERISA. The court concludes that Sydnor's actions were otherwise prudent by taking into account what he knew at the time about the imminent failure of McGraw. Thus, the court finds that the actions of the Defendants were appropriate in relation to what a prudent man would have done under the same circumstances. In general, "`a trustee's discretionary decision will not be disturbed if reasonable, even if the court itself would have reached a different conclusion.'"Booth, 201 F.3d at 341 (citations omitted). See also Moench v. Robertson, 62 F.3d 553, 566 (3d Cir. 1995), cert. denied, 516 U.S. 1115 (1995) (a fiduciary ". . ., is entitled to a presumption that it acted consistently with ERISA . . ." In order to rebut this presumption, a plaintiff must show that "a prudent fiduciary acting under similar circumstances would have made a different investment decision." Id.
Plaintiffs Have Not Proved Damages and Are Not Entitled To Any Equitable Remedy
Various circuit courts of appeals have held that in order to impose personal liability on a fiduciary for a breach of the statutory duty to the plan "to make good to such plan any losses to the plan resulting from each such breach . . ." under 29 U.S.C. § 1109 (a), a plaintiff must sustain burden of proving that losses were actually caused to the plan by the alleged breach of fiduciary duty (and the amount of such losses). See Kuper, 66 F.3d at 1459; Diduck v. Kaszycki Sons Contractors, Inc., 974 F.2d 270, 279 (2d Cir. 1992); Fink v. National Savings Trust Co., 772 F.2d 951, 962 (D.C. Cir. 1985) (Scalia, J., concurring in part and dissenting in part). See also Silverman v. Mutual Benefit Life Ins. Co., 138 F.3d 98, 104 (2d Cir. 1998), cert. denied, 525 U.S. 876 (1998), (Jacobs, J., concurring) ("Causation of damages is . . . an element of the claim, and the plaintiff bears the burden of proving it.") Moreover, if there are no provable losses resulting from a breach, then no monetary liability for a "loss" would be available under ERISA. E.g., Physicians Health Choice, Inc. v. Trustees of the Automotive Employee Benefit Trust, 988 F.2d 53 (8th Cir. 1993) (holding that trustees of a multi-employer welfare plan may not be held individually liable under ERISA for mismanaging the plan where no loss to the plan is established); Ironworkers Local 272 v. Bowen, 695 F.2d 531, 536 (11th Cir. 1983) (finding that although fiduciary breached duty, such breach did not cause loss).
Specifically with regard to the transactions covered by § 1106, "prohibited transactions do not per se mandate a remedy . . ." Etter v. Pease Construction Co., 963 F.2d 1005, 1009 (7th Cir. 1991). To the contrary, "the fact that a transaction is prohibited under ERISA does not necessarily mandate a remedy . . . [r]ather, the decision to impose a remedy lies within the court's discretion and should be `in tune with the case's realities." Id. (citations omitted). See also Leigh v. Engle, 858 F.2d 361 (7th Cir. 1988), cert. denied, 489 U.S. 1078 (1989) (affirming lower court's award of damages for only one of three prohibited transactions). Plaintiff may obtain relief only for the loss caused by the prohibited transaction. See Elmore, 23 F.3d at 864 (refusing to grant relief where plaintiffs failed to prove that the stock purchased by the plan as a result of allegedly prohibited transaction was in fact worth less than the price for which it was appraised and where plaintiffs failed to prove that they suffered a loss); Etter, 963 F.2d at 1009 ("Absent a showing of injury to the Plan, the remedy of damages . . ., is not appropriate."). See also Cosgrove, 915 F. Supp. at (holding no damages against a fiduciary should be imposed under ERISA § 409(a), 29 U.S.C. § 1109 (a) even if the fiduciary breached his duty where fiduciary caused no loss to the plan and realized no profit).
To prove that the Plan suffered loss as a result of Defendants' alleged breach and to estimate the amount of damages, Plaintiffs called an expert witness (Huitt) to analyze the data that was available to Defendants at the time the Plan sold the preferred stock to McGraw. Huitt concluded that the Plan sustained a loss because not all the equity invested by CNC was allocated to purchase the preferred shares. Huitt, however, did not take into account the distinction between the two separate transactions. Huitt attempted to substitute the amount paid by CNC in the second transaction for the amount offered and paid by McGraw in the first transaction. Accordingly, using the amount of payment from the second transaction to calculate the damages allegedly sustained as a result of the first transaction was not appropriate or useful. See Amato v. Western Union Int'l Inc., 773 F.2d 1402, 1417 (2d Cir. 1985). . . . [T]he complaint is vulnerable to the extent that it fails to distinguish between defendants' duties as corporate officers and those as Plan trustees."). Moreover, Huitt ignored the fact that neither CNC nor anyone else had offered any other amount for the preferred shares. Finally, and most significantly, Huitt did not perform an independent valuation of the equity of McGraw or that of the preferred stock as of the transaction date. Therefore, Plaintiffs failed to present any evidence that the preferred stock was in fact worth more than $70 per share for which it had been appraised. As a result, Plaintiffs failed to prove that the Plan suffered or what extent in terms of the amount of any damages. Therefore, no remedy of damages would be appropriate even if the Plaintiffs had otherwise met their burden. Elmore, 23 F.3d at 864;Etter, 963 F.2d at 1009; Cosgrove, 915 F. Supp. At 1066.
CONCLUSION
Plaintiffs have failed to show that Defendants breached their fiduciary duties and that the Plan sustained any loss as a result of the alleged violations whereas the Defendants have clearly established by a preponderance of the evidence that there was adequate consideration for the subject sale of Plan assets. The Defendants are therefore entitled to judgment. An appropriate order shall issue.
ORDER
This matter is before the Court upon trial without a jury. Upon consideration of the evidence, all the pleadings and oral argument of counsel, the Court, for the reasons set forth in the accompanying Memorandum Opinion, hereby renders its verdict in favor of each Defendant in all four counts of the Second Amended Complaint. The case is DISMISSED.
Let the Clerk of the Court forward a copy of this Order and accompanying Memorandum Opinion to all counsel of record.
It is so ORDERED.