Chesemore v. Alliance Holdings, Inc.

Decision Date24 July 2012
Docket NumberNo. 09–cv–413–wmc.,09–cv–413–wmc.
PartiesCarol CHESEMORE, Daniel Donkle, Thomas Gieck, Martin Robbins and Nannette Stoflet, on behalf of themselves, individually, and on behalf of all others similarly situated, Plaintiffs, v. ALLIANCE HOLDINGS, INC., A.H.I., Inc., David B. Fenkell, Pamela Klute, James Mastrangelo, Jeffrey A. Seefeldt, Alpha Investment Consulting Group, LLC and John Michael Maier, Defendants, and Trachte Building Systems, Inc. Employee Stock Ownership Plan and Alliance Holdings, Inc. Employee Stock Ownership Plan, Nominal Defendants.
CourtU.S. District Court — Western District of Wisconsin

OPINION TEXT STARTS HERE

Andrew W. Erlandson, Marie A. Stanton, Coad Law Office, Madison, WI, Karen L. Handorf, Michelle Yau, Monya Monique Bunch, Robert Joseph Barton, Bruce Frank Rinaldi, Robyn Michelle Swanson, Cohen Milstein Sellers & Toll PLLC, Washington, DC, for Plaintiffs.

Angela M. Rust, Lora L. Zimmer, Patrick F. Koenen, Appleton, WI, Christopher Craig Woods, Kristen Marie Blankley, Columbus, OH, Jeffrey J. Wedel, Ryan A. Sobel, Cleveland, OH, Karen L. Handorf, Robert Joseph Barton, Cohen Milstein Sellers & Toll PLLC, Washington, DC, Charles B. Wolf, Patrick Williamson Spangler, Benjamin Hartsock, Vedder Price P.C., Chicago, IL, Lynn Marie Stathas, Reinhart Boerner Van Deuren S.C., Madison, WI, for Defendants.

OPINION AND ORDER

WILLIAM M. CONLEY, District Judge.

Once the concept of employee stock ownership plans (ESOPs) gained acceptance in the early 1970s, their numbers grew rapidly. See Steven F. Freedman, Effects of ESOP Adoption and Employee Ownership: Thirty years of Research and Experience, 2007 University of Pennsylvania Dynamics Working Papers, # 07–01 (January 10, 2007), posted at http:// repository. upenn. edu/ od_ working_ papers/ 2. By 1993, more than 9,000 plans were in effect, along with over 20 pieces of legislation encouraging owners of privately-held companies to implement ESOPs and share equity with employees. Id. at 3. Since 1993, the number of ESOP plans appears to have stagnated, likely due to a combination of changes in the tax laws, the highly-publicized failures of ESOPs with ownership interests in corporations such as Enron, Polaroid and United Airlines, and the perceived costs of doing business associated with ESOPs, such as underinvestment, inefficient decisionmaking and conflicting fiduciary obligations. Id.

As many majority owners of closely-held companies with ESOPs began looking for ways to sell their majority interests, defendants David B. Fenkell and the companies he formed and controls, Alliance Holdings, Inc. (Alliance), A.H.I., Inc. (“AHI”) and AH Transitions (collectively “the Alliance Defendants), saw an opportunity. They buy companies with an ESOP, fold these ESOPs into the Alliance ESOP, hold and expand the companies over a relatively short period of time and then flip them at a profit, benefitting Alliance generally and Fenkell in particular as he personally redeems phantom stock. All of this is perfectly legal, provided that someone is acting as fiduciary to protect the interests of the employee holdings in the ESOP. Unfortunately, Fenkell and the other Alliance Defendants took calculated steps to insure no one would be doing so when they flipped Trachte Building Systems, Inc. (Trachte).

In 2002, defendant Alliance purchased Trachte in a private stock transaction for $24 million and merged accounts of plaintiffs, who were Trachte employees, with an old Trachte ESOP into the Alliance Holdings, Inc. Employee Stock Ownership Plan and Trust (the Alliance ESOP). Five years later, Alliance expected to sell Trachte for around $50 million. After failing to find a third-party buyer at the desired price, Alliance orchestrated a sale of Trachte to a newly-formed Trachte Building Systems Employee Stock Ownership Plan (“the Trachte ESOP). Plaintiffs' accounts in the Alliance ESOP, holding approximately $8 million worth of Alliance stock, was a linchpin of the sale.

Alliance structured the sale as a series of interdependent actions on August 29, 2007 (collectively, “the 2007 Transaction”), each of which was conditioned on the completion of all subsequent actions. At Alliance's direction, the Alliance ESOP spun-off the Trachte employees' accounts into the new Trachte ESOP and the Alliance shares in those accounts were exchanged for Trachte shares held by AHI. Using these shares as collateral for loans, Trachte and the Trachte ESOP redeemed or purchased all of Trachte's outstanding equity from Alliance, AHI and Stephen Pagelow, Trachte's former CEO. At the close of the 2007 Transaction, the Trachte ESOP had paid $38.1 million for 100% of Trachte's equity and Trachte had taken on $36 million in debt. Fenkell and Alliance designed this transaction so that either plaintiffs' ESOP holdings would be used as leverage to buy Trachte on terms favorable to Alliance or those holdings would revert to holdings in the Alliance ESOP.

All of this might have been fine, except that Alliance also orchestrated the parties so that no independent person was looking out for the employees' interests in the Alliance or the Trachte ESOP. Only a week before the 2007 Transaction, Alliance appointed Trachte's President Jeffrey A. Seefeldt and CFO James Mastrangelo—both beholden to Alliance—as the sole members of Trachte's board of directors. The board then adopted a new Trachte ESOP and named as its sole trustees Seefeldt, Mastrangelo and Pamela Klute, Trachte's VP of Human Resources, (collectively, the Trustee Defendants). After realizing at the eleventh hour that they faced a conflict of interest and were not qualified to assess the transaction, the Trustee Defendants hired defendants Alpha Investment Consulting Group, LLC (Alpha) and John Michael Maier to serve as “independent fiduciaries” of the Trachte ESOP, review the transaction and direct the trustees. Unfortunately, Alliance and the trustees restricted the scope of Alpha's authority and obligations and did not appoint Alpha properly as a directing trustee.

As a result of the Alliance Defendant's orchestration and the Trustee Defendant's negligence and conflicts of interest, questionable judgments were made in the valuation of Trachte without independent scrutiny and the Trachte ESOP paid more than fair market value. Ultimately, Trachte could not afford the debt load that it incurred as part of the 2007 Transaction. The 2007 annual valuation for the Trachte ESOP placed Trachte's equity value at $16.99 million. By 2008, the value was $0.

Plaintiffs brought this suit under ERISA, 29 U.S.C. § 1001, et seq., alleging numerous breaches of ERISA fiduciary duties by Alliance and Fenkell as fiduciaries of the Alliance ESOP; by Seefeldt, Mastrangelo and Klute as trustees of the Trachte ESOP; by Alpha and Maier as fiduciaries of the Trachte ESOP; and various forms of vicarious liability against all defendants. The court held a liability trial from October 11, 2011, to October 19, 2012, and based on the factual findings set forth below, the court finds:

(1) defendants Seefeldt, Mastrangelo and Klute breached their fiduciary duties to the Trachte ESOP under ERISA § 404(a)(1)(D) to follow plan terms by attempting to abdicate their duties and choosing to accept Alpha's direction;

(2) Seefeldt, Mastrangelo and Klute violated ERISA § 406(a)(1) by causing the Trachte ESOP to enter a prohibited transaction without adequate consideration;

(3) Seefeldt, Mastrangelo and Klute are not liable for any failure to monitor under ERISA § 404(a) or for any breaches by one another or by Alpha under ERISA § 405(c);

(4) defendants Alpha and Maier did not violate ERISA § 406(a)(1) because they were not acting as functional fiduciaries of the Trachte ESOP;

(5) defendants Alliance and Fenkell breached their fiduciary duties of loyalty and care under ERISA § 404(a) to the Alliance ESOP by using the accounts of the Trachte employees for their own purposes;

(6) Fenkell violated ERISA § 406(b) by dealing with plan assets in his own interest and receiving consideration from a party dealing with the plan;

(7) Alliance is liable as co-fiduciary for Fenkell's breaches under ERISA § 405(a) and for breaching its duty to monitor Fenkell under ERISA § 404(a); and

(8) equitable relief is appropriate under ERISA § 502(a)(3) against defendants AHI and AH Transition for the fiduciary breaches of Alliance and Fenkell, but no other liability is appropriate under ERISA § 502(a)(3).

MOTION TO STRIKE ROBERT GROSS' EXPERT TESTIMONY

Prior to trial, the court reserved judgment on plaintiffs' motion to strike portions of Robert Gross' expert testimony. (Dkt. # 473.) Gross opined that it was appropriate for Barnes Wendling to include a $1.9 million “tax-shield” in its valuation of Trachte for the 2007 Transaction, because the Trachte ESOP received a tax benefit from its leveraged ESOP purchase, while the Alliance ESOP gave up those tax benefits. Plaintiffs argued that his opinion was contrary to the commonly accepted valuation principles for determining fair market value (namely, that one should assume a hypothetical buyer and seller with no special characteristics), was not supported by peer-reviewed publications and was contrary to the opinions of all the other experts in this case.

After hearing the testimony of the valuation experts, the court concludes that it was not appropriate to include a tax shield in assessing a company's fair market value for a sale between two ESOPs. The court will nevertheless deny plaintiffs' motion to strike Gross' testimony. Gross attempted to apply general valuation principles to assess the unique structure of the 2007 Transaction. Despite the clarity of the general principle for assessing fair market value, the valuation experts noted some uncertainty about this issue and the court benefited from hearing arguments on both sides. Given the uniqueness of this transaction, it is unsurprising that Gross could not cite peer-reviewed literature for his opinion and, in...

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