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August 26, 1986

HERBERT BARNESS, et al., Defendants, SAN FRANCISCO REAL ESTATE INVESTORS, INC., Counterclaimant and Third-Party Plaintiff, v. TERRYDALE LIQUIDATING TRUST, et al., Counterdefendants and Third Party Defendants

The opinion of the court was delivered by: SAND


Plaintiff, Terrydale Liquidating Trust ("TLT"), a New York business trust that is the successor in interest to Terrydale Realty Trust ("TRT"), brought an action against San Francisco Real Estate Investors, Inc. ("SFREI") and the individual trustees of San Francisco Real Estate Investors, seeking to hold them liable as aiders and abettors of an alleged breach of fiduciary duty and as constructive trustees of property allegedly sold to them in violation of the seller's fiduciary duties and Declaration of Trust. On November 19, 1984, this Court granted defendants' motion for summary judgment in part and dismissed the claim that they were aiders and abettors of said breach. Terrydale Liquidating Trust v. Barness, 611 F. Supp. 1006 (S.D.N.Y. 1984) (hereinafter "Terrydale "). Both defendants' and plaintiff's motions for summary judgment as to plaintiff's equitable claim for restitution were denied, however, because material questions of fact existed as to whether there was a breach of fiduciary obligation or Declaration of Trust and, if so, whether defendants had sufficient notice thereby such that they held the acquired assets as constructive trustees for plaintiff's benefit. Id. at 1012. On June 10, 1986, the action proceeded to trial. For the reasons stated below, we find that plaintiff also has failed to establish any liability on defendants' part with respect to plaintiff's claim for equitable restitution.


 This case presents, with some significant variations, what has become a common phenomenon in the securities field: efforts by management to resist and defeat hostile takeovers by enlisting the aid of a "white knight" or other inhibitory tactics. Here, the significant variations relate to both the nature of the target and the relief sought as well as the role defendants played in the subject transaction. First, the target was a Missouri Real Estate Investment Trust ("REIT") which, under relevant IRS provisions, would have lost its preferred tax status and other benefits if five or fewer of its shareholders owned 50% of its stock. Second, having settled its claims against the target's trustees and having had its claims for other relief dismissed, plaintiff now seeks to impose upon the white knight -- the entity that purchased most of its assets -- a constructive trusteeship over those assets for the benefit of the target's shareholders. Plaintiff premises this claim on a theory that the purchaser knew or should have known that the sale constituted a breach of the TRT Declaration of Trust and of the target's trustees' fiduciary obligation to the target's shareholders. Plaintiff has succeeded in establishing that this Court has personal jurisdiction over the defendants and subject matter jurisdiction over plaintiff's claim for equitable restitution.

 The facts underlying this litigation and its complex procedural history already have been articulated in several prior opinions. See Terrydale, 611 F. Supp. at 1012-1014; see also Terrydale Liquidating Trust v. Gramlich, 549 F. Supp.529 (S.D.N.Y. 1982); Bolton v. Gramlich, 540 F. Supp. 822, 827-30 (S.D.N.Y. 1982). Familiarity with these prior opinions shall be assumed and the facts wil be restated only to the extent necessary to set forth our findings of fact and conclusions of law pursuant to F.R.Civ.P. 52(a).

 Briefly, BCG Associates (hereinafter "BCG"), a New York limited partnership, commenced an unsolicited tender offer for 160,000 TRT shares at a price of $33.50 per share. If successful, the offer would have given BCG virtual majority ownership of TRT. The TRT trustees decided to pursue alternatives to BCG's offer and "met or otherwise communicated with seven other bidders for the purpose of soliciting either a tender offer for all or part of the TRT shares or an offer to purchase the assets of TRT. The trustees also attempted, without success, to persuade BCG to amend its offer to provide for purchase of all outstanding TRT shares." Terrydale, 611 F. Supp. at 1013 (footnote omitted).

 After a Canadian company, Unicorp Financial Corporation, decided not to enter into the battle for control of TRT, its president, George Mann, notified SFREI (40% of whose stock was owned by Unicorp) of the TRT opportunity. SFREI eventually proposed to purchase approximately 80% in value of TRT's assets (i.e., four office buildings located in Denver, Colorado) after originally expressing interest in acquiring all of the outstanding TRT shares.

 Several meetings of the TRT trustees followed. First, they met as a group on February 2, 1981, to consider the SFREI proposal and other alternatives to the BCG tender offer. The "independent trustees," i.e., those who were not members of the Gramlich family, met on February 5 and concluded that the SFREI offer was in the best interests of all the TRT shareholders. All of the TRT trustees unanimously approved the sale of the Denver properties to SFREI on February 6 and, in addition, adopted and disclosed a liquidation plan whereby the proceeds of the SFREI sale would be distributed to TRT shareholders along with the remaining trust assets. A liquidating dividend of $24 per share would also be distributed on February 23 to all the TRT shareholders of record as of February 19.

 1. Breach of Fiduciary Duty

 In our most recent opinion involving this litigation, we determined that the business judgment rule/duty of loyalty analysis was applicable to the trustees of an REIT. Terrydale, 611 F. Supp. at 1016. We also noted that plaintiff had submitted sufficient evidence to create issues of fact regarding the self-interest of trustees John Gramlich, J. Russell Gramlich, and J. Harlan Stamper; the Gramlichs' domination and control over trustees Murphy, O'Flaherty, and Stamper (to the extent Stamper was not otherwise self-interested); and the fairness and reasonableness of the transactions at issue. Terrydale, 611 F. Supp. at 1019-32. Thus, for plaintiff to prevail in its remaining claim against defendants, it must prove by a preponderance of the evidence, that, under the applicable analysis, the TRT trustees breached their fiduciary duty.

 Where business trustees have acted in good faith and have exercised honest judgment in lawful and legitimate furtherance of the trust's purposes, courts will neither inquire into nor interfere with their actions. See Norlin Corp. v. Rooney, Pace Inc., 744 F.2d 255, 264 (2d Cir. 1984) (quoting Auerbach v. Bennett, 47 N.Y.2d 619, 629, 419 N.Y.S.2d 920, 926 393 N.E.2d 994 (1979)). *fn1" This posture of respect is affiliated with the "duty of care" prong of the trustee's duty to the shareholders -- i.e., "the responsibility of a fiduciary to exercise, in the performance of his tasks, the care that a reasonably prudent person in a similar position would use under similar circumstances." Norlin, supra, 744 F.2d at 264; see also Hanson Trust PLC v. ML SCM Acquisition, Inc., 781 F.2d 264, 273 (2d Cir. 1986). The duty of loyalty, the second prong of a trustee's obligation to shareholders, "derives from the prohibition against self-dealing that inheres in the fiduciary relationship." Norlin, 744 F.2d at 264. Once plaintiff has made a prima facie showing that the trustees had a self-interest in the subject transaction, "the duty of loyalty supercedes the duty of care, and the burden shifts to the [trustees] to 'prove that the transaction was fair and reasonable to the trust.'" Norlin, 744 F.2d at 265 (quoting Treadway Companies, Inc. v. Care Corp., 638 F.2d 357, 382 (2d Cir. 1980); see also Hanson, supra, 781 F.2d at 273.

 The Second Circuit has recently written that "[i]t is not enough that [trustees] merely be disinterested and thus not disposed to self-dealing or other indicia of a breach of the duty of loyalty." Hanson, supra, 781 F.2d at 274. Rather, they also must meet the standard of due care "with 'conscientious fairness'" -- i.e., they must make informed decisions after "gathering and considering material information" with "reasonable diligence." Id. (citation omitted). If they adhere to "'methodologies and procedures' [that] are 'so restricted in scope, so shallow in execution, or otherwise so pro forma or halfhearted as to constitute a pretext or sham,' then inquiry into their acts is not shielded by the business judgment rule.'" Id. (quoting Auerbach, supra, 419 N.Y.S.2d at 929, 393 N.E.2d at 1002-003); but see id. at 285-91 (Kearse, J., dissenting).

 Plaintiff alleges the two Gramlich trustees' self-interest as predicated upon desired continued management of the properties and the receipt of fees and commissions therefrom as well as their personal debt situation. Defendants seem to have conceded that the two Gramlich trustees were "interested" (see Letter of June 30, 1986 from Attorneys for Defendants at 6), but, more importantly, the remaining trustees perceived the Gramlichs to be "interested" and arranged to meet separately to discuss the SFREI transaction. See, e.g., Tr. 484-85.

 We note, however, that although plaintiff contends the Gramlichs' dire financial straits prompted their desperation to consummate the deal with the "white knight" which led to the sacrifice of the best interests of the shareholders (see Terrydale, 611 F. Supp. at 1020-21), this does not appear to have been the case. While it is true the Gramlichs had a $890,872 loan obligation falling due on February 10, 1981 (id.), J. Russell Gramlich testified that the payments on the note could have been met by turning the Gramlichs' stock over to BCG at the last moment if "[they] had no better offer for our stockholders." Tr. 1419-20. Michael Gramlich apparently "was in Kansas City with all [of the] stock ready to tender it to the Grace people in case this deal didn't go through with [SFREI]." Tr. 1431. Although this plan poses certain difficulties regarding John Gramlich's and Michael Gramlich's apparent ignorance of it (see Plaintiff's Supplemental Memorandum of Law of July 29, 1986 at 49-52 ("Plaintiff's Supp. Memo.")), the Gramlichs' prior announcement advising shareholders not to tender their stock, and possible short-swing profit problems, 15 U.S.C. § 78p(b), it at least indicates that the Gramlichs were not as "desperate" as plaintiff intimates. Moreover, J. Russell Gramlich also testified that his other investments could have helped cover the loan. Tr. 1419.

 We also reject plaintiff's contention that the Gramlichs' self-interest and bad faith likewise were demonstrated by their decision to announce the consummation of the transaction no later than Friday, February 6, 1981. According to plaintiff, the documentation regarding rent adjustments supports its view that the closing did not take place until Monday, February 9, 1981. Pretrial Order at Exh. 3B ("Plaintiff TLT's Factual Contentions") 182; Tr. 602. Thus, the Gramlich trustees allegedly accelerated the announcement so that the TRT shareholders would know they would receive a liquidating dividend and thereby defeat the BCG tender offer. This acceleration also allegedly prevented BCG from seeking to enjoin further consummation of the closing because of the latter's belief that the entire deal had been finalized on February 6, 1981.

 In fact, as Stamper testified, a title company acting as TRT's agent had received the proceeds of the sale on February 6, 1981 "and they had held it over the weekend because they had no means to transmit it until Monday." Tr. 595; 600-01. It was therefore TRT's position that it had the right to declare the dividend on February 6, 1981. Most importantly, however, on the facts of the case and the state of ...

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