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Feldheim v. Sims

July 17, 2003


Appeal from the Circuit Court of Cook County. Honorable Patrick McGann, Judge Presiding.

The opinion of the court was delivered by: Justice Hartman


Involved in this appeal is the restructuring of the Chicago Board of Trade (CBOT), the largest futures and options exchange in the United States, from a not-for-profit Delaware corporation to two, fully-demutalized, for-profit Delaware corporations, establishing open outcry (New CBOT) and electronic trading (eBOT) businesses (collectively, proposed CBOT), as delineated by a January 19, 2000 resolution of the CBOT Board of Directors (Board). As of March 8, 2002, the CBOT membership was comprised of five different classes including full memberships (FMs) (1402 seats), collectively, the majority; and associate memberships (AMs) (789 seats), Government Instruments Market (GIMs) (156 seats), Community Options Market (COMs) (643 seats) and Index, Debt and Energy Market (IDEMs) (642 seats), collectively, the minority. The class-certified plaintiffs own minority membership interests in the CBOT, and sought declaratory and injunctive relief on their behalf and as representatives of a class of all persons who own CBOT minority memberships, against the defendants, named individually and as representatives of a class of FMs.

Plaintiffs challenge the circuit court's entry of summary judgment against them, which ruled that the majority FMs were not controlling shareholders of the CBOT, thereby denying plaintiffs an "entire fairness hearing" on the allocation of CBOT's equity when it is restructured as the proposed CBOT. Plaintiffs claimed that under Delaware law, as controlling shareholders the FMs owe fiduciary duties to the minority in connection with any vote which affects the minority's ownership interest. Defendants moved to dismiss the amended complaint pursuant to sections 2-615 (735 ILCS 5/2-615 (West 2000) (section 2-615)) and 2-619 (735 ILCS 2-619 (West 2000) (section 2-619)) of the Code of Civil Procedure (Code). Initially, the circuit court denied defendants' motions. *fn1

Plaintiffs filed second and third amended complaints for declaratory and injunctive relief. *fn2 The circuit court then certified both classes. Thereafter, defendants moved for summary judgment, alleging that (1) FMs owe no fiduciary duty to the minority members; (2) the 1,402 FMs each are owned by individuals and do not constitute a majority ownership in the CBOT; (3) no evidence exists showing the control or dominance of the FMs in the business of the CBOT in general, or in the corporate restructuring process; and (4) FMs are entitled to the protection of the business judgment rule. The court granted summary judgment in favor of defendants and against plaintiffs, finding that (1) the CBOT has no majority shareholders; (2) no shareholders took part in the allocation process; (3) FMs did not exercise any domination or control over the affairs of the CBOT; and (4) no question of material fact existed. Plaintiffs unsuccessfully moved to reconsider and vacate the order granting summary judgment. This appeal followed.

The parties agree that the forthcoming change in the CBOT will be historic; CBOT's structure should be altered from a nonstock, not- for-profit entity to the proposed CBOT; all CBOT's equity will be reallocated among its membership; and recent changes in the futures industry, including the rise of electronic trading, require that the CBOT must modernize its corporate structure to remain a leading exchange.

In early 1999, the CBOT Strategy Committee, which did not include members of the CBOT Board, was involved in the preliminary stages of restructuring and the development of initial recommendations. In August 1999, the CBOT Board established a Restructuring Task Force (Task Force). No AMs or IDEMs were appointed to the Task Force. The Task Force was charged with developing a restructuring plan to modernize the CBOT's structure and governance in order to compete in the evolving marketplace. The Task Force conducted a comprehensive, strategic evaluation over a period of six months, aided by CBOT staff, a management consulting firm, an investment banking firm and outside counsel. In January 2000, the Task Force presented its recommendations to the Board, which approved the recommendation with respect to the restructuring strategy and appointed an Implementation Committee to refine further the details of the plan. All but one of the Implementation Committee members were FMs. *fn3

In addition, an independent Allocation Committee (Allocation Committee), comprised of five CBOT "outside directors," was appointed to develop a recommendation to the Board regarding an appropriate and fair allocation of value among CBOT members in connection with the restructuring and allocation of shares in the proposed CBOT. *fn4 The members of the Allocation Committee owned no membership interests in the existing CBOT. No CBOT rules or legally binding agreements between the membership classes address the allocation of equity with respect to for-profit restructuring.

The Board, comprised of a majority of FMs, appointed the Allocation Committee which engaged William Blair and Company (William Blair), an investment banking firm, to develop an allocation proposal. In preparing a series of reports for the Allocation Committee, William Blair recognized that "[f]ulls control voting; any allocation should satisfy Full Members if it is to receive a favorable vote." *fn5 William Blair reviewed a large collection of data, including (1) CBOT rules delineating membership rights concerning trading, voting and liquidation; (2) financial data regarding trading volume and historical seat prices; (3) precedent from other exchanges that completed a demutualization process; and (4) restructuring presentations provided by other advisors to the CBOT. William Blair also met with minority membership committees and selected FMs, various CBOT staff and former staff members and an Allocation Committee member to solicit input regarding potential approaches to the allocation.

Deposition testimony from William Blair analysts who worked on the development of an allocation methodology, which was followed by the Allocation Committee, was submitted to the circuit court. The importance of this testimony to the resolution of this appeal requires that it be set forth in some detail.

Mark Calzolano, William Blair vice-president of the mergers and acquisitions group, testified that the CBOT restructuring was proposed as a demutualization rather than a liquidation; otherwise, the liquidation could extinguish the CBOE exercise right. William Blair presented various allocation methodologies and the Allocation Committee ultimately decided to put more emphasis on certain factors such as liquidation rights, voting rights and Ceres transaction precedent *fn6 because the committee agreed to that methodology. Calzolano did not recall whether William Blair suggested that more importance be given to those three factors.

Minutes from a May 1, 2000 Allocation Committee meeting attended by Calzolano, John Ettelson, chief financial officer at William Blair, and Chris Cotter, a William Blair principal, state in reference to allocation ratios presented to the committee, "[d]uring the course of this discussion, the Committee and William Blair concurred that in establishing an allocation ratio relatively greater importance should be given to liquidation rights/voting rights and the Ceres allocation without assigning a specific weight to any single factor." William Blair completed a "sensitivity analysis," a subjective assessment based on the allocation methodologies, in order to determine what the lower and upper boundaries of the ratio should be. *fn7 Calzolano stated that, "as a team, we collectively decided on the range" of allocation ratios, which varied from 4.5 to 1, 4.75 to 1, 5 to 1 and 5.25 to 1, with respect to equity distribution between FMs and AMs. According to Calzolano, these numbers were not developed through mathematical calculations, but represented a "range of fairness." The committee ultimately decided on a 5 to 1 allocation ratio between FMs and AMs, but never explained why it chose that ratio. Significantly, how William Blair chose the numbers for the ratios was unknown.

Cotter testified by deposition that William Blair represented all membership classes when formulating the allocation methodology, but gave greater emphasis to liquidation rights, voting rights and the Ceres transaction precedent, instead of seat market value and trading volume. Voting rights were incorporated into the seat market value. In addition, William Blair valued the CBOE exercise right at $50,000, which was subtracted from the seat market value of a full membership to eliminate the impact of the CBOE value. William Blair ultimately decided not to assign specific weights to the five factors *fn8 that it recommended be used for the allocation methodology.

Cotter testified that Ettelson created the ranges of allocation ratios based upon consideration of all the relevant factors. According to Cotter, Ettelson made the final decision as to what the allocation should be. The Allocation Committee selected the 5 to 1 ratio after William Blair presented ...

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