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January 9, 1984


The opinion of the court was delivered by: Shadur, District Judge.


In 1973 Michael Susman ("Susman") brought this suit as a derivative action on behalf of Consumers National Corporation ("Consumers") and as a class action on behalf of Consumers' minority shareholders (the "Class," termed simply "plaintiffs" where there is no need to distinguish between the Class and Susman).*fn1 Susman asserted various violations of the Securities and Exchange Act of 1934 (the "Act") and of state law in connection with Consumers' 1973 "going private" merger into its majority shareholder Lincoln American Life Insurance Co. ("Lincoln Life"), a whollyowned subsidiary of Lincoln American Company of New York ("Lincoln American"). Ten years of motions and appeals*fn2 narrowed the scope of the action considerably. Then this Court's bench trial earlier this year gave the Class — but not Susman individually*fn3 — its hearing on the two remaining claims:

    1. Material misrepresentations in and omissions from
  Consumers' April 1973 proxy statement (the "1973 Proxy,"
  Pl.Ex. 12) violated Act § 10(b) and Rule 10b-5 promulgated
    2. In controlling Consumers' transactions and disclosures in
  1972 and 1973, defendants breached their fiduciary duties to
  Consumers' shareholders under Delaware law.

In accordance with Fed.R.Civ.P. 52(a) this Court finds the facts specially as set forth in the following Findings of Fact ("Findings") and states the following Conclusions of Law ("Conclusions"). To the extent if any the Findings as stated reflect legal conclusions, they shall be deemed Conclusions; to the extent if any the Conclusions as stated reflect factual findings, they shall be deemed Findings.

Findings of Fact

Parties and Relevant Transactions

1. Until August 1, 1972 Consumers National Life Insurance Co. ("Consumers Life") was a small life insurance company based in Evansville, Indiana. It was a publicly-held corporation until February 1, 1972, when it became a wholly-owned subsidiary of Consumers in a transaction in which Consumers Life shareholders became shareholders of Consumers instead. On August 1, 1972 Consumers and Consumers Life headquarters were moved to Memphis, Tennessee, where both companies continued their existence until Consumers was merged into Lincoln Life April 30, 1973. That merger of Consumers into Lincoln Life is the subject of this litigation.

2. At all relevant times Lincoln Life was a Tennessee life insurance company based in Memphis. On April 1, 1969 Lincoln Life had become a wholly-owned subsidiary of Lincoln American Co. of Tennessee ("Lincoln Tennessee") in a transaction in which Lincoln Life shareholders became shareholders of Lincoln Tennessee. Based on an agreement tentatively reached in October 1971, Lincoln Tennessee merged with Coburn Corporation of America ("Coburn") on May 1, 1972 to become Lincoln American.

3. In early 1969 Consumers Life management had asked defendant Richard Keathley ("Keathley"), President of Lincoln Life, to cause Lincoln Life to serve as a "white knight" by taking a controlling stock position in Consumers Life.*fn4 Lincoln Life offered to purchase a substantial block but the proposed deal was not consummated. Then in 1970 Consumers Life had given D.P.C., Inc. ("DPC") the capacity to control Consumers Life so that control could be marketed to a suitable third party. DPC was owned by Richard Davoust ("Davoust"), chief executive officer of Consumers Life and later Consumers, but Consumers Life retained the right to approve transfer of DPC's Consumers stock and stock option rights to a third party. DPC owned 124,190 shares of Consumers Life and an option (expiring February 24, 1972) to purchase 200,000 authorized but unissued Consumers Life shares at $7 per share.*fn5 Based on 742,826 shares outstanding (after giving effect to the assumed exercise of the 200,000-share option), DPC therefore was capable of owning 43.6% of Consumers Life stock. On September 28, 1971 Lincoln Tennessee acquired an option from DPC, good through February 1, 1972 (the "DPC Option"), to acquire its position in Consumers Life at a cost to Lincoln Tennessee (including the $1.4 million needed to purchase the 200,000-share block at $7 per share) of $11.10 for each of the 324,190 Consumers Life shares. Rather than exercise the DPC Option on the even of its proposed merger with Coburn, Lincoln Tennessee assigned that Option to Coburn, which exercised it (subject to the approval of the Indiana Insurance Commissioner) January 31, 1972.

4. Coburn obtained the approval of the Indiana Insurance Commissioner, and on May 3, 1972 Lincoln American (as successor to Coburn) closed its purchase of 43.6% of Consumers (as successor to Consumers Life). Five days later Davoust resigned and was replaced by Keathley as President of both Consumers and Consumers Life. Lincoln American and its subsidiaries began acquiring Consumers' shares on the open market, and by June 8, 1972, the same month as the 1972 Consumers shareholders' meeting, Lincoln American effectively owned 50.2% of Consumers' shares. As announced in the June 1972 proxy statement (the "1972 Proxy," Pl.Ex. 6), at the shareholders' meeting Lincoln American elected four members of its own board of directors to Consumers' new five-member board of directors*fn6: individual defendants Irving Bernstein ("Bernstein"), who was Lincoln American's President, Consumers' Chairman and Consumers Life's Chairman and also became Consumers' President; Keathley, who was Lincoln Life's President and remained as Consumers Life's President; Seymour Rosenberg ("Rosenberg"); and Jack Wilder ("Wilder"), who was Lincoln American's Chairman. As the fifth member of the Consumers board, Lincoln American elected incumbent Consumers' and Consumers Life's director Robert Kelly ("Kelly"), also an individual defendant. Lincoln American elected an identical board to direct Consumers Life. Kelly meanwhile took a position as Vice President of Lincoln Life.

5. It is not seriously contested that from the time Lincoln Tennessee obtained the DPC Option, Lincoln Tennessee and its successors Coburn and Lincoln American possessed at least an abstract intent to merge Consumers Life and Lincoln Life.*fn7 Moreover on July 7, 1972 Lincoln Life obtained permission from Tennessee's Insurance Commissioner to buy Consumers' shares from Lincoln American (Pl.Ex. 28) subject to the condition that Keathley "plot a course of merger in the very near future." Lincoln American moved Consumers' administrative operations to Memphis and consolidated them with those of Lincoln Life on August 1, 1972, thus realizing substantial savings. Lincoln American and its subsidiaries continued to make open market purchases, so that by March 29, 1973 Lincoln American effectively owned 63.7% of Consumers' outstanding shares.

6. In the 1973 Proxy, Consumers' board of directors (elected by Lincoln American in June 1972) recommended for shareholders' adoption a merger agreement providing for a mandatory cash-out merger, with all minority shareholders to receive $8.50 per share and with Lincoln Life to be the surviving corporation. It announced a special April 27, 1973 Consumers shareholders' meeting to vote on the merger, and it further announced the intention of Lincoln Life and its subsidiaries to vote in favor of the merger. Because Lincoln American controlled 63.7% of the vote, more than was required by Delaware law and Consumers' Articles of Incorporation, no degree of opposition by the minority shareholders could have defeated the merger. In fact 38.7% of all minority shares were voted on the merger, and of those shares 86.7% were voted in favor of and 13.3% were voted against the merger.

7. Susman brought this suit on behalf of minority shareholders April 26, 1973, the day before the special shareholders' meeting, seeking damages and injunctive relief. None of the defendants was served until after the merger was consummated, and no motion for a preliminary injunction was ever made. Claims remaining for disposition at the time of trial require factual determinations of (a) the actual value of minority shares at the time of the merger, (b) the existence and extent of any misrepresentations or omissions in the 1973 Proxy and whether Susman relied upon them to his detriment and (c) whether defendants breached state law duties to the minority shareholders between their acquisition of control of Consumers and the consummation of the merger.

Value of Consumers Shares

8. On March 19, 1969, shortly after Consumers Life had sought out Lincoln Life to act as a "white knight" (Finding 3), actuary John Frucella ("Frucella") had determined Consumers Life was worth about $6.8 million as of December 31, 1968, or $12.57 per share based on the 542,914 shares outstanding before exercise of the DPC Option. Frucella. then an actuary for American General Insurance Co. ("American General"), prepared the valuation ("1969 Frucella valuation") at the request of Andrew Delaney ("Delaney"), a director of Lincoln Tennessee who was also a Vice President of American General.*fn8 Frucella had been trained in valuation by Delaney, who in turn was widely regarded as an expert in life insurance valuation. Frucella's valuation had as its principal component his finding that Consumers Life's $150.6 million face value in outstanding ordinary (as opposed to group) life insurance policies were worth about $4.3 million as an asset of the company. That finding in turn was based on a 1967 gross premium valuation by the actuarial firm of Nelson & Warren, Inc. Frucella found (Pl.Ex. 4A) Nelson & Warren's valuation, although high, was realistic because "approximately 20 percent of the company's business was written at exceptionally high premium rates."

9. In 1971, when Lincoln Tennessee was negotiating the DPC Option (Finding 3), Delaney had told Keathley Consumers Life was worth $11 per share. After Lincoln Tennessee acquired the DPC Option, Delaney assured Coburn's top management (including Wilder and Bernstein) that was a fair price. In addition on January 6, 1972 Frucella sent Keathley a second valuation of Consumers Life ("1972 Frucella valuation"), this time reporting the company was worth about $6.8 million, or $12.50 per share based on 542,914 shares and $11.02 per share if an additional 200,000 shares were issued as contemplated by the DPC Option agreement. That second valuation was expressed as of December 31, 1970, by which time Consumers Life's insurance in force had dropped to $139 million face value. Frucella found Consumers Life's ordinary life insurance policies were worth about $4.4 million, this time basing his finding on the 1970 Nelson & Warren report and his own calculation of future profits discounted at 12% to present value.*fn9 Frucella stated his valuation was conservative for a number of reasons.*fn10 Based on the advice of Delaney and Frucella, Coburn accepted an assignment from Lincoln Tennessee of the DPC Option.

10. Because DPC controlled a substantial portion of Consumers Life's stock, Coburn's acquisition of the DPC Option required the approval of the Indiana Insurance Commissioner (Finding 4). At an April 1972 hearing by the Indiana Insurance Commissioner, Bernstein testified the terms of that acquisition were fair and reasonable to Consumers' shareholders (formerly Consumers Life's shareholders). On the basis of documents filed before the Indiana Insurance Commissioner and admissions in depositions by Bernstein (Dep. 59) and Wilder (Dep. 61-62), this Court cannot affirmatively find the defendants perceived the $11.10 figure as including any "control premium" that might destroy the relevance of that figure to the real value of Consumers stock. Nonetheless the market value of Consumers stock at the time was only $7.50, a figure that cannot be ignored in investigating the significance of the $11.10 price.*fn11

11. Once Lincoln American acquired its control block of Consumers stock and began to acquire additional shares on the open market, accountant Julius Glassman ("Glassman"), Lincoln American's Treasurer, from time to time worked with the accounting consequences of the proposed Lincoln Life-Consumers merger. For instance, shortly after the DPC Option was exercised Glassman was calculating what portion of Consumers' acquisition would be carried as good will, and in making notes on a scratch pad at one point (Pl.Ex. 86(b)) wrote: "We will pay . . . $8,000,000 For company." Similarly one page of Glassman's note pad written on October 26, 1972 (Pl.Ex. 86(c)) included the words "Cost . . . 8000 [M]." Plaintiffs seek to use these nearly-illegible notations as evidence that at any point in the acquisition process the minority shares were equal in value to $8 million minus the cost of the shares acquired by Lincoln American to that date. This Court rejects the notion that kind of rough calculation by an accountant, necessarily based on speculation about what future events might bring and obviously intended to reflect a working hypothesis for accounting treatment rather than a definitive valuation, has the probative force plaintiffs urge.

12. At trial plaintiffs called Milton Meigs ("Meigs"), financial analyst at the firm of Duff & Phelps, as an expert witness on the value of the Class' shares at the time of the merger. Defendants countered Meigs' testimony with that of William Buchanan ("Buchanan"), a Fellow of the Society of Actuaries. Both estimated the value of Consumers by predicting the amount of income it could produce and discounting that prospective income stream to its present value. As the table in the Appendix (the "Chart") indicates, Meigs testified Consumers was worth $10.16 per share at the time of the merger, while Buchanan testified it was worth $6.61 per share. Meigs based his entire analysis on Consumers' 1972 earnings, rejecting all prior years as non-representative because of pre-fiscal 1972 changes he viewed as fundamental.*fn12 After adjusting for certain extraordinary events in 1972 Meigs predicted Consumers would grow at 3% per year indefinitely and based his present value calculations on that prediction. By contrast Buchanan found one year too short a time period on which to base his calculations. Instead he used the average annual earnings of 4 1/4 years ending March 31, 1973, thereby including the first quarter of Consumers' fiscal 1973 as well as fiscal years 1969-72. Buchanan adjusted the 4 1/4 year earnings history by the same extraordinary factors Meigs considered, but he rejected Meigs' 3% growth prediction and based his present value calculations on the prediction Consumers' earnings would neither grow nor decline.*fn13 For Findings 13-19 it is useful to refer on a continuing basis to the Chart's tabular comparison of the two witnesses' valuations.

13. As the Chart reveals, there are only a few serious points of disagreement between Meigs and Buchanan. After meeting Buchanan more than halfway on the question of Consumers' 1972 adjusted earnings,*fn14 Meigs nonetheless found each share worth $3.50 more than Buchanan because of differences in methodology represented by the lines of the Chart containing its footnotes 2 and 3. Meigs' removal of investment earnings from his general present value calculations increased his conclusion as to Consumers' value by about $800,000, more than $1 per share. His use of a 3% annual growth rate instead of a flat earning stream increased his conclusion as to Consumers' value by about $1.4 million, almost $2 per share. Meanwhile Buchanan's use of 1969-73 average adjusted earnings, rather than 1972 adjusted earnings alone, reduced his conclusion as to Consumers' value by about $1.2 million, more than $1.50 per share.*fn15 Those substantial differences may be translated into two issues of fact:

    (a) Should Consumers' investment earnings be separated from
  and capitalized independently of its life insurance premium
  earnings, as Meigs did and Buchanan did not?
    (b) Whose view of Consumers' prospects is more accurate:
  Meigs' view that it would grow from its 1972 adjusted
  earnings at 3% annually in perpetuity, or Buchanan's view
  that it would return to its average adjusted earnings of the
  prior 4 1/4 years and remain at that level?

14. On the evidence the first issue must be and is resolved in defendants' favor. Buchanan testified (Tr. II 60-61) the company as a whole, not just its life insurance branch, creates an earnings stream. Thus he concluded (id. at 62-63) given the information available it is best to capitalize the entire earnings stream at a single rate. On the other hand Meigs testified (Tr. I 47-48) only that he in fact excluded the company's investment income on its capital and surplus; he did not defend that approach. Meigs assumed Consumers obtained about a 7% return on its investment capital.*fn16 Both sides agree small life insurance companies such as Consumers should be capitalized at a 12% rate. By capitalizing Consumers' life insurance business at 12% and its investment holdings at 7%, Meigs effectively capitalized Consumers as a whole at a rate well below 12%, thus subverting both sides' testimony as to the propriety of the 12% capitalization rate. It is especially inappropriate for Meigs thus to bifurcate Consumers to a premium-collecting company and an investment company, for his prediction of 3% growth assumes Consumers would have invested as much as possible in expansion of its own agency force rather than in low-risk investments. Obviously the same capital cannot be used for two different purposes.

15. On the more generalized issue of the nature of Consumers' growth prospects, the analysis is necessarily more complex, but once again defendants must and do ultimately prevail. True enough the evidence supports plaintiffs' contention Consumers was in a turning posture, but the question is which way it was turning. Consumers made a profit in 1972 after posting losses in both 1970 and 1971. However its insurance in force declined in every year (including 1972) for which evidence was provided,*fn17 as did its ordinary premium income.*fn18 Plaintiffs' Post-Trial Br. 59-60 n. 47 explains that alarming and continuing statistical fact "merely reflects the fact that terminations still exceeded new business (albeit by a modest amount)." Thus plaintiffs assumed — without any factual support — that a slowing rate of decline can be extrapolated into a positive growth rate of indefinite duration.*fn19 This Court rejects that assumption.

16. Meigs defended his growth scenario by citing various changes in Consumers' position in 1971 and early 1972. Those changes are summarized in the text of Davoust's April 28, 1972 oral report to the board of directors (Pl.Ex. 46).*fn20 Plaintiffs' Post-Trial Br. 55 summarized Meigs' testimony:

  [Meigs] noted that in prior years. Consumers Life had been
  plagued by a difficult and debilitating litigation for control
  (the United Founders litigation), which was not settled until
  1971. (Tr. I, 13.) He then noted that in 1971 new management,
  headed by a long time director Richard Davoust, assumed control
  of the company from Hornsby Mims, who had previously been the
  chief executive officer. (Tr. I, 253.) Mr. Meigs testified that
  on the basis of his examination of the results for 1971 and the
  first portion of 1972, he concluded that the Davoust management
  had reversed the momentum of the company. (Meigs, Tr. [I] 253,
  13, 33.) He also found in his analysis of 1971 and 1972 that
  expenses appeared to

  be coming under control, the worst of the termination problem
  was behind the company, as was the United Founders litigation,
  and other old problems (such as writing off $150,000 of old
  agent balances in 1971) had been solved. (Meigs, Tr. [I]

But a reading of Davoust's statement on which Meigs' testimony is based does not support the conclusion Consumers was on the brink of an extended period of growth. On page 1 Davoust (whose principal business experience had been in the oil industry, not insurance) outlined a laundry list of woes Consumers faced in mid-1971 cutting to the heart of its continued existence.*fn21 Although maintaining a positive tone as a chief executive officer should, Davoust emphasized (Pl.Ex. 46 at 2) if Consumers could not defeat its problems by increasing sales "the company will stifle and die by the weight of its own overhead and loss of existing business through attrition." Davoust vowed (id. at 6) to "rebuild the agency force with higher quality agents who will produce better business and profits in the future," a plan abandoned upon Lincoln American's acquisition of a majority of Consumers shares.*fn22 Meigs' "supporting" evidence is thus questionable at best, a weakness amplified by Meigs' own equivocation on the witness stand. In rebuttal Meigs testified only (Tr. II 240) "There is grounds for saying that yes, there was a potential to stabilize this business," and (id. at 241) the investment climate "would provide a basis for making some projection that assumed that the company, indeed could show a positive earnings growth."*fn23

17. While Meigs' perpetual growth prediction is hard to swallow (and this Court does not buy it), it is of course also recognized that Buchanan is unlikely to have hit the mark precisely in predicting Consumers' earnings would have dropped to their 4 1/4 year average, then remained stable for 20 years. Understandably neither expert purported to opine with certainty. Both predictions sought to identify the average of a universe of potential possibilities. It is only remotely possible Consumers would have grown at 3% for a long time. In contrast Buchanan's no-growth prediction has greater appeal because it factored in the possibility — supported by the objective evidence — Consumers was a declining company. In reaching his $6.61 per share valuation, Buchanan testified (Tr. II 60) his analysis of Consumers `found "no pattern of growth," but in his opinion future contraction was more likely than growth. That opinion was a probable and persuasive one, given (a) Consumers' constantly shrinking pool of insurance in force and (b) the defeat of Lincoln Life's expectations as to the quality of Consumers' agency force (a fact learned after the merger, when a full investigation was possible). Buchanan's crosscheck calculations, based on industry averages, produced slightly higher valuations than his primary analysis because Consumers generally performed lower than average in the industry.*fn24

18. Fair value calculations require the consideration of more data than can easily be assimilated by a single analyst, even a well-informed one. Instead the ideal tool in such a calculation would be one that employs all relevant information and channels it through the decision making processes of people most likely to have a stake in the outcome of the calculation. Of course such a tool exists: It is the market. On that score, according to defendants' expert Thomas Meakin ("Meakin"), insurance stock analyst with Shelby, Cullom, Davis & Co., the market sides with defendants on the fair value question. Together with Buchanan's actuarial analysis, Meakin's testimony establishes Lincoln American offered a fair price to minority shareholders in the merger. Meakin's analysis of National Quotation Service "pink sheets" revealed (Tr. II 16-18) Consumers Life and later Consumers stock was traded on most days during the 16-month period he examined, constituting an active market for the stock. Meakin found (id. at 21) about 90 percent of the transactions were for approximately $7.50 per share, well below the $8.50 offered by Lincoln American.

19. Plaintiffs' Post-Trial Br. 76 attacks Meakin's testimony only by claiming the misrepresentations discussed below constituted a "fraud on the market." Plaintiffs take a narrow view of what information enters the market, seemingly arguing the market incorporates no information unless it has been revealed formally to the shareholders in a proxy statement. Such a position would be difficult to accept even if it were supported by evidence, which it was not. Of the misrepresentations and omissions claimed by plaintiffs, nearly all concerned public information omitted from the 1973 Proxy but not withheld from the market as a whole.*fn25 Indeed the market transactions covered an extended period preceding the 1973 Proxy, a period during which the information (assertedly later misrepresented in and omitted from the 1973 Proxy) was available. After all, any "fraud on the market" perpetrated by the 1973 Proxy would have impacted market transactions only during April 1973. Meakin's testimony covered a period well before that month, a period during which the information was already before the public. Thus the market protected the interests of the minority shareholders. In fact the only distortion in the market supported by evidence was established by Meakin himself (Tr. II 25): Because Lincoln American bought 150,000 shares over the time period he analyzed, Lincoln American artificially maintained the price of the Class' shares above what it would otherwise have been.

20. None of the informal valuations of Consumers Life and Consumers stock described at Findings 8-11, either individually or collectively, is sufficiently probative to overcome ...

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