Schoenholtz v. Doniger

• Decision Date: 26 March 1987
• Docket Number: No. 83 Civ. 2740.,83 Civ. 2740.
• Parties: Jack C. SCHOENHOLTZ, as Administrator of the Rye Psychiatric Hospital Center, Inc., Supplemental Retirement Income Fund-Fixed and Rye Psychiatric Hospital Center, Inc., Supplemental Retirement Income Fund-Variable, Plaintiffs, v. David E. DONIGER, I. Jay Lauer and Alexander Carlen, Defendants.
• Court: U.S. District Court — Southern District of New York

657 F. Supp. 899

Jack C. SCHOENHOLTZ, as Administrator of the Rye Psychiatric Hospital Center, Inc., Supplemental Retirement Income Fund-Fixed and Rye Psychiatric Hospital Center, Inc., Supplemental Retirement Income Fund-Variable, Plaintiffs, v. David E. DONIGER, I. Jay Lauer and Alexander Carlen, Defendants.

No. 83 Civ. 2740.

United States District Court, S.D. New York.

March 26, 1987.

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Herrick & Feinstein, P.C., New York City, for plaintiffs; Frederick A. Nicoll, of counsel.

Cerrato, Sweeney, Cohn, Stahl & Vaccaro, White Plains, N.Y., Paul, Weiss, Rifkind, Wharton & Garrison, New York City, for defendants; Julius W. Cohn, White Plains, N.Y., Jay Greenfield, New York City, of counsel.

IRVING BEN COOPER, District Judge.

INTRODUCTION

Plaintiff commenced this action alleging that defendants breached fiduciary duties to two employee retirement plans ("the Plans") at the Rye Psychiatric Hospital Center ("the Hospital") in Rye, New York in violation of the Employee Retirement Income Security Act of 1974 ("ERISA" or "Act"), 29 U.S.C. §§ 1001-1381 (1982). Following a non-jury trial on the merits of the case, we entered judgment on the liability issue in favor of plaintiff and against each defendant by our Findings of Fact ("FF"), Conclusions of Law ("CL") and Order filed on February 14, 1986.¹ The plaintiff now moves for an award of compensatory damages, attorney's fees and punitive damages. These matters were fully addressed at trial and have since been extensively briefed.

I COMPENSATORY DAMAGES

A. The Appropriate Measure of Damages

This Court now faces the "formidable task of finding an appropriate measure of damages, if any, with regard to all defendants found to be liable as fiduciaries." Leigh v. Engle, 727 F.2d 113, 137 (7th Cir.1984). The statutory provisions of ERISA grant us wide discretion in fashioning relief to make the Plans whole and protect the rights of the beneficiaries. Gilliam v. Edwards, 492 F.Supp. 1255, 1266 (D.N.J.1980). In pertinent part, § 409(a) of ERISA, 29 U.S.C. § 1109(a) (1982), provides:

Any person who is a fiduciary with respect to a plan who breaches any of the responsibilities, obligations, or duties imposed upon fiduciaries by this subchapter shall be personally liable to make good to such plan any losses to the plan resulting from each such breach, ... and shall be subject to such other equitable or remedial relief as the court may deem appropriate....

In determining what the measure of losses ought to be in this case, we are guided by the recent decision of our Court of Appeals in Donovan v. Bierwirth, 754 F.2d 1049 (2d Cir.1985). There, the Court found liability for losses under § 409 even where the trust made a profit on the transaction. Finding the notion of opportunity cost fixed within the law of trusts, the Court determined that a trustee is liable for "`any profit which would have accrued to the trust estate if there had been no breach of trust.'" Id. at 1054 (quoting Restatement (Second) of Trusts § 205(c) (1959)); see also Leigh v. Engle, 619 F.Supp. 154, 160 (N.D.Ill.1985) (construing Donovan). The Court stated:

In view of the intent expressed by Congress in providing for the recovery of "losses," in the absence of evidence of congressional attempt to penalize, as such, violations of section 409, we hold that the measure of loss applicable under ERISA section 409 requires a comparison of what the Plan actually earned on the attacked investment, with what the Plan would have earned had the fund been available for other Plan purposes. If the latter amount is greater than the former, the loss is the difference between the two; if the former is greater, no loss was sustained.

Donovan, 754 F.2d at 1056.

Plaintiff maintains under Donovan that the appropriate measure of losses to the Plans is the difference between what the Plans would have realized from the investment of all available contributions had it not been for defendants' malfeasance, versus the Plans' actual asset value. More specifically, the losses to the Plans are claimed to be the difference between the value of the convertible preferred shares of Hospital stock the Plans should have purchased with the annual contributions made by the employer, and the value of the Dreyfus money market accounts in which contributions were actually invested. This measure, plaintiff argues, is consistent with our finding that "the willful acts by defendants and their omissions prevented the Plans' investment of contributions in Hospital securities from the years 1980, 1981, 1982 and 1983." (FF 41).

Defendants take issue with plaintiff's proposed measure; their position is that investment in Hospital securities would have been speculative or less profitable than the value of the money market accounts. Moreover, defendants suggest an alternative to a cash award in the event we determine plaintiff is entitled to relief. They contend that the Plans can be made whole by turning back the clock and having the "appropriate" number of shares retroactively issued to the Plans nunc pro tunc.

We adopt plaintiff's proposed measure of losses which seeks to put the Plans in the position they would have been in had there been no breach. We find that this approach is consistent with the purpose of § 409(a) and the clear directive set forth in Donovan, 754 F.2d at 1056.

In contrast, defendants' proposed measure of losses is at variance with § 409. The retroactive issuance of those additional preferred shares the Plans should have had as of March, 1984 would not begin to make plaintiff whole. The value of the relatively few shares already held by the Plans, as well as any which would be issued now, has been significantly impaired — so impaired, in fact, defendants elsewhere maintain that investment in such securities is inherently imprudent. (Defendants' Memorandum of Law on the Issue of Damages and in Support of Their Motion to Reopen and Supplement the Record at 31-40 hereinafter Defendants Memo I). Thus, the effect of now ordering the sale of shares to the Plans would be to shift losses to plaintiff —a violation of § 409(a).²

In short, we reject defendants' measure of damages in favor of plaintiff's, and find that the losses to the Plans shall be measured by the difference between the value of the convertible preferred shares of Hospital stock the Plans should have purchased and the value of the Dreyfus money markets accounts in which the contributions were actually invested.

B. The Plans' Losses

Having settled upon a measure of damages, our inquiry turns to whether defendants in fact caused the Plans to suffer losses, and if so, how much.

To establish the Plans' losses owing to defendants' misconduct, plaintiff had Mr. Peter Kelston testify as an expert witness. Mr. Kelston's intimate knowledge of the Plans and the Hospital securities is not in dispute. In fact, in 1981 he specifically designed the convertible, preferred stock series that was intended to be sold to the Plans, and in each of the following two years advised the Hospital as to the value of, and a recommended minimum selling price for, such stock. (Tr. 1634-1645).³ We were impressed with Mr. Kelston's first hand knowledge and, contrary to defendants' contentions, find him to be a credible witness.

Mr. Kelston determined that defendants' breach of their fiduciary duties caused the Plans to lose $458,961.00. (Tr. 1651-1654). This figure was arrived at by subtracting the amount which the Hospital's contributions to the Plans yielded as of March 1984 by way of its investment in the Dreyfus money market fund ($623,257.00), from what the Plans would have realized by August, 1983, if, in each year since August of 1981, all of the Hospital contributions to the Plans had been invested in Hospital stock ($1,082,218.00). (Tr. 1648-1654; Ex. 121).

Despite "the `imponderables of the valuation process' and the concomitant broad discretion traditionally granted to evaluators of corporate shares of stock," Universal City Studios, Inc. v. Dupont & Co., 334 A.2d 216, 221 (Del.1975), defendants elected not to rebut Mr. Kelston's testimony. Neither the methodology employed by Mr. Kelston nor the results of his damage calculations were seriously challenged during the trial. Defendants urge, however, that we discount Mr. Kelston's opinion as being unworthy of credit. They contend that the witness' testimony lacked probative value because his damage calculations were based on erroneous premises and his methodology was inherently unreliable. Alternatively, defendants claim the Plans could not have suffered damages because investment in Hospital securities would not have been a prudent investment and, in any event, plaintiff should be estopped from seeking any damages incurred after December 15, 1982, when defendants allegedly ceased to be Plan trustees. We shall consider each of these contentions in turn.

1. The Investment Assumption

The initial premise for Mr. Kelston's damage calculations is that each of the Plans would have invested the entire amount of the annual contributions received from the Hospital to purchase Hospital securities. (Tr. 1648, 1651, 1734; Ex. 121). Defendants contend that this premise is incorrect as a matter of law, and that Mr. Kelston's conclusion cannot be the basis of an award.

The gravamen of defendants' contention is that the extent to which employee retirement plans can invest in employer securities is expressly governed by ERISA which prohibited the Plans from investing more than 10% of its assets in Hospital securities. Since Mr. Kelston's damage opinion assumes that 100% would be invested, defendants reason this assumption is incorrect by 90%.

Though some plans are limited to a 10% investment, ERISA authorizes an "eligible individual account plan" to invest up to 100% of its assets in "qualifying employer securities." ERISA § 407(b)(1), 29 U.S.C. § 1107(b)(1) (1982); see also District...