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February 12, 2004.

U.S. TRUST COMPANY, et al., Defendants

The opinion of the court was delivered by: MICHAEL MIHM, District Judge


  In 1995, Foster & Gallagher, Inc. ("F&G") was enjoying multiple years of record profits, and the management forecast projected additional years of record profit into the future. On December 20, 1995, the F&G Employee Stock Ownership Plan ("ESOP"), with U.S. Trust Co. ("U.S. Trust") as its trustee, purchased 3,589,743 shares of F&G stock from Thomas Foster ("Foster"), Melvyn Regal ("Regal"), A. Robert Pellegrino ("Pellegrino"), and several other officers and directors at a price of $19.50 per share. For the next two years, F&G continued to enjoy record profits, even exceeding the projections in the management forecast. However, in 1998, F&G's profits began a steady decline that ended when the company declared bankruptcy in 2001. This trial looked at what happened to cause F&G to go from boom to bust and addressed the question of whether any of the Defendants breached a fiduciary duty to the ESOP that resulted in the loss of the value of the F&G stock held by the ESOP. Page 2

  By the end of the 14-day bench trial in this matter, essentially four claims were left on the table for judicial determination: (1) whether Foster, Regal, and Pellegrino breached a fiduciary duty by failing to disclose material information in connection with the 1995 stock purchase transaction; (2) whether Foster, Regal, and Pellegrino breached a fiduciary duty by causing the ESOP to enter into a prohibited transaction; (3) whether U.S. Trust breached a fiduciary duty by causing the ESOP to enter into a prohibited transaction; and (4) whether U.S. Trust breached a fiduciary duty by failing to take action to investigate and pursue claims against participants in the 1995 stock purchase transaction after the value of F&G stock precipitously declined.

  Based on the evidence presented at trial, the Court finds that neither Foster, Regal, nor Pellegrino attempted to conceal material information or knowingly made anything less than full disclosure of such information to U.S. Trust and its due diligence team in connection with the 1995 stock purchase transaction. Accordingly, no duty to disclose material information was breached.

  The Court further finds that the ESOP did not pay more than adequate consideration for the stock purchased on December 20, 1995. Although Plaintiffs argued that the fair market value of the F&G stock was substantially less than the $19.50 price that was paid per share and that U.S. Trust did not conduct a good faith/adequate investigation, these arguments were premised on the presumption that information concerning dependency on sweepstakes marketing and increased governmental regulation of the sweepstakes marketing industry posed either a material risk to F&G in 1995 or a future material risk that was reasonably foreseeable at the time. The weight of the evidence indicated that F&G's officers and directors did not consider Page 3 these issues to be material at the time, as evidenced by the following: (1) an otherwise inexplicable conversion to a Subchapter S corporation in 1997 (which would only have had positive tax consequences for a company expecting continued profitability); (2) the undersubscription of another stock purchase transaction by the ESOP in 1997 because many officers and directors believed that the stock was worth much more and would continue to increase in value; (3) the immediate refusal of Foster and Regal to sell their remaining shares to the company at $25.00 per share in 1997; and (4) an unsecured $10 million loan from Regal and the Foster Estate to F&G in 1999 in order to assist the recovery of the company. Nor were such issues deemed material by the four lenders that performed their own due diligence investigation prior to loaning F&G $70 million to finance the 1995 stock purchase transaction at favorable interest rates and without requiring collateral. Some of those same lenders agreed to loan an additional $100 million on the same terms in 1997. Uncontroverted and credible testimony at trial from an industry expert also established that such issues were not material at the time of the 1995 stock purchase transaction and did not present a reasonably foreseeable material risk of future harm to F&G. Given these findings, in conjunction with three expert valuations placing the fair market value of F&G stock well in excess of $19.50 per share and the less credible valuation supporting Plaintiffs' position that the value of the stock was substantially less than $19.50 per share, the Court must conclude that the 1995 stock purchase transaction was for adequate consideration and that Foster, Regal, Pellegrino, and U.S. Trust are entitled to the protection of an exemption under § 408(e) of ERISA on Plaintiffs' prohibited transaction claims. Page 4

  Finally, as the evidence of record established that the cause of the loss to the ESOP was not any material risk to the value of F&G stock due to sweepstakes dependency or governmental regulation of the sweepstakes industry in connection with the stock purchase by the ESOP on December 20, 1995, the investigation and preservation of claims against participants in the 1995 stock purchase transaction as requested by the Plaintiffs would have been fruitless and fufile. Thus, U.S. Trust could not have breached any fiduciary duty by failing to take the requested action.

  This is an important case to the parties involved, and is also important to many people who have not been directly involved in the litigation but were participants in the F&G ESOP. It is important to the Plaintiffs, who lost their jobs, benefits, and funds expected to provide for their retirement when F&G closed its doors in 2001. It is important to the Defendants, whose professional reputations and personal integrity have been called into question and some of whom also lost their jobs and investments when F&G declared bankruptcy. This case is also important to the community, as F&G was a Peoria institution for many years, and its former officers and employees are well known in this community as neighbors, friends, and personal acquaintances. The Court recognizes the importance of this case and has immersed itself in the facts and arguments of record in order to give this litigation the scrupulous care and attention that it deserves.

  The loss of F&G was tragic, and it is completely reasonable for the people who suffered from its demise to want to understand what happened and assign blame to anyone who could have caused the loss. The Court is very sympathetic to the Plaintiffs and the losses that they have suffered and would have liked nothing more than to have Page 5 been able to restore to them what they had lost. However, the Court's sympathy cannot change the proven facts of record or the governing law in order to reach a more compassionate result.

  What happened to F&G in 2001 may or may not have been the result of mismanagement or poor business decisions in response to the drastic industry change that occurred in 1998. The Court cannot find on the record before it that F&G's demise was brought about by any breach of fiduciary duty in connection with the 1995 stock purchase transaction. Accordingly, the Court finds in favor of Defendants U.S. Trust, Regal, and Pellegrino and against Plaintiffs on the breach of fiduciary duty claims asserted in the First, Third, and Fifth claims for relief asserted in the First Amended Complaint.*fn1

  The Court would be remiss if it did not note the exemplary quality of the legal representation of all parties in this case. The attorneys were always completely prepared and presented the evidence in a totally professional manner. Hundreds of exhibits were admitted and presented seamlessly. While acting as aggressive advocates on behalf of their clients, counsel for Plaintiffs and Defendants pursued their advocacy in a highly civil manner. No trial judge could ask for anything more. Page 6


Foster & Gallagher. Inc. and Its Employee Stock Ownership Plan
  1. At the time of its incorporation in 1951, F&G specialized in marketing gifts, housewares and novelty items through direct mail. In subsequent years, F&G expanded through the acquisition of several companies and as of December 1995 maintained several operating companies or "trade styles" including Breck's, Breck Holland, N.V., Spring Hill Nurseries, Magazine Marketplace, Inc., Magazine Marketplace Telemarketing, Inc., Mauna Loa Macadamia Nut Company of Hawaii, The Popcorn Factory, Michigan Bulb Company (which itself consisted of four separate tradestyles), Stark Brothers Nurseries, Childcraft, and HearthSong. Several of these companies specialized in marketing horticultural products, including flower bulbs.

  2. In 1995, Foster was Chairman of the Board of Directors of F&G and was also a Director of Michigan Bulb Company ("MBC"). Foster died on July 11, 1996, and Ellen D. Foster was the executrix of his estate.

  3. Defendant Regal was at all relevant times a shareholder and executive of F&G. In 1995, he was Vice Chairman of the Board of Directors of F&G and a Director of MBC.

  4. Defendant Pellegrino was at all relevant times a shareholder and executive of F&G. In 1995, Pellegrino was President of F&G, as well as a Director of both F&G and MBC.

  5. On January 1, 1988, F&G established an ESOP that operated as a defined contribution, leveraged employee stock ownership plan, covering substantially all employees of F&G and its subsidiaries. F&G was the sponsor of the ESOP. Page 7

  6. The ESOP initially purchased 3,587,573 shares of F&G stock from certain shareholders, including Foster and Regal, using a $3 million cash contribution from F&G and $47 million from the proceeds of a loan through F&G. All ESOP contributions were to be controlled by a trustee "acting under a Trust which forms a part of the Plan."

  7. LaSalle National Bank ("LaSalle Bank") was the original trustee of the ESOP. LaSalle Bank was replaced as trustee of the ESOP on March 3, 1989, by Community Bank of Greater Peoria (later known as Magna Bank or Trust Company ("Magna Bank")). In August 1995, Defendant U.S. Trust was retained at trustee specifically in conjunction with a proposed purchase of additional F&G stock by the ESOP ("ESOP II").

  8. On December 20, 1995, U.S. Trust was formally appointed as successor trustee, and Magna Bank was given notice of its removal as trustee of the ESOP. Upon receiving confirmation of U.S. Trust's acceptance of the trusteeship, Magna Bank accepted its removal and waived any technical notice requirements.*fn2 From that point on December 20, 1995, forward, U.S. Trust was successor trustee and a fiduciary with respect to the ESOP. In this capacity, U.S. Trust held the plan assets, managed the assets of the ESOP, made distributions to participants, administered the payments of interest and principal on certain loans, and made the decision to consummate the 1995 stock purchase transaction on behalf of the ESOP.

  9. Plaintiffs Debra K. Keach and Patricia A. Sage were employees of F&G and participants in the ESOP. Page 8

  MBC and Its Sweepstakes

  10. In 1992, F&G explored the possibility of acquiring MBC. MBC was a direct mail marketer of bulbs, plants, and seeds, primarily for home gardens. MBC performed all of its advertising, mailing, order processing, warehousing, and shipping from its home office in Grand Rapids, Michigan.

  11. MBC had four primary tradestyles: Michigan Bulb, Flower of the Month, Rockwood Gardens, and Home and Garden Value-Mart. MBC used a sweepstakes program as part of its direct mail advertising. MBC's promotions had a "[s]trong sweepstakes orientation."

  12. In anticipation of its acquisition of MBC, F&G sent several employees to MBC's facilities to perform due diligence inquiries intended to confirm the possibility of synergistic effects, identify areas for potential improvement, and determine whether and how to integrate MBC into F&G's existing operations.

  13. F&G ultimately purchased MBC in October 1992. Foster, Regal and Pellegrino were the directors of MBC, which appears to have been a formality, as there were no board of directors meetings for MBC that were separate and apart from F&G board meetings.

  14. F&G made a number of post-acquisition changes to MBC, including improved storage facilities, new product development, a renewed focus on service, and better training of customer service employees. It also hired a new president, Robert Ostertag ("Ostertag"), and shifted some experienced personnel from other F&G operations. Page 9

  15. Following these changes, MBC's customer retention rate increased from approximately mid-20% retention at the time of the acquisition to a rate of 30% or more by the beginning of 1995, which was considered to be within industry norms. MBC's revenues also grew dramatically following the acquisition, from $68.4 million in 1993 to $91.4 million in 1994, and $68 million in the first half of 1995.

  16. As part of its direct mail marketing, MBC utilized a sweepstakes program typically consisting of three elements: (a) an "everybody wins" sweepstakes where everyone that returned an entry wins a "special prize" regardless of whether or not they placed an order; (b) a base sweepstakes that awarded a total of $250,000 annually and had a $100,000 grand prize; and (c) a color-coded or pre-selected giveaway in which the winners were determined before the mailing. For 1995, MBC's "special prizes" were a package of flower seeds or a gift certificate for a free family portrait from Olan Mills.

  17. MBC's combination Order Form and Prize Validation and Claim Form included a "Prizewinner Release" to be initialed by the "verified First Round Winner" giving MBC permission to use the winner's name and likeness for advertising and publicity purposes should the winner receive the $100,000.00 Grand Prize. Immediately below the Prize Validation and Claim Form was MBC's Order Form. The back of the Prize Validation and Claim Form and Order Form included an "URGENT MESSAGE" from the "PRIZE DISTRIBUTION CENTER," which stated in part: "THE LAWS OF PROBABILITY ARE ON YOUR SIDE if you have been issued a pre-selected winning color-coded reply envelope."

  18. In 1991 MBC retained an attorney, John Awerdick, a specialist in advertising law with a focus on sweepstakes, to review its mailings for compliance with Page 10 the law. Awerdick interacted directly with Thomas Stumb ("Stumb"), MBC's chief financial officer, who was responsible for dealing with outside counsel and regulatory agencies.

  19. Awerdick initially advised MBC that the laws of nine states could be read to bar the "everybody wins" approach used by MBC, that sweepstakes were increasingly being regulated by state prize and gift laws, and that risk assessment was difficult because the laws were not being heavily enforced. He also advised MBC that certain states required disclosure of the odds of winning or of prize value and regulated the use of "specially selected" and similar language. Awerdick subsequently assisted MBC in responding to inquiries from regulatory agencies and consumers concerning its sweepstakes promotions.

  20. By the spring of 1992, MBC had established a procedure for developing new promotions in which each proposed promotion was reviewed by Awerdick at two different stages. If Awerdick advised MBC not to send a particular mailing out for some reason, the mailing was not sent out.

  21. In connection with the due diligence of MBC by F&G in 1992, Pellegrino knew that "some states didn't like" the "everybody wins" sweepstakes used by MBC, and were discussing eliminating "everybody wins" sweepstakes. Pellegrino understood an "everybody wins" sweepstakes to include sweepstakes mailings where everyone that returns an entry wins a prize. Nonetheless, F&G "did not see anything that disturbed" them with respect to MBC's sweepstakes, including the "everybody wins" promotions.

  22. In August 1992, Regal received a memorandum in connection with F&G's due diligence of MBC that listed "Increased state regulation of sweepstakes C first Page 11 round winner" as a global concern to MBC's business. Regal explained this global concern as meaning that each state had different sweepstakes rules and, if those rules varied from state to state, MBC could have difficulty making mailings on a cost efficient basis, such that increased state regulation on what could be put in a catalogue on sweepstakes could have an effect on MBC's business.

  23. MBC's dependency on sweepstakes was also considered a possible "threat" to its business. According to Regal, this meant that changes in state laws could prevent MBC from mailing its sweepstakes promotions into those states.

  24. In August 1993, Awerdick advised MBC about pending sweepstakes legislation in Illinois, and advised that the Illinois legislation was not the only new law in the area nor the last that would pass. Awerdick had already advised MBC about new laws in Georgia and Arkansas, and promised to update MBC on legislation in Minnesota, Nebraska, Wyoming, Tennessee and perhaps other states which might affect sweepstakes.

  25. In a letter dated February 23, 1994, to F&G's accountant, Price Waterhouse L.L.P., with copies to F&G and MBC representatives, Awerdick referred to "unasserted claims" and then advised that promotional sweepstakes were regulated directly or indirectly in all fifty states, as well as under federal law, and that "[t]rends in the regulation of sweepstakes are noteworthy." Awerdick's letter went on to state:

  Increasingly, states are using consumer protection laws to regulate sweepstakes further. In particular, a number of states are regulating some promotions in which every recipient of a mailing is advised that he or she is a prize winner. Many of the Company's [MBC and Flower of the Month Club, Inc.] mailings include such a statement. Generally, either through statutory language or as a matter of prosecutorial discretion, these "gift and prize" laws are being applied against businesses using "900" telephone numbers, offering time shares, vacation homes and camp sites, Page 12 or requiring attendance at a sales presentation to receive a prize. I know of no current attempts to enforce these laws against traditional conventional direct mail sweepstakes operators. However, the Company would be required to make fundamental changes in many of its mailings if a "prize and gift" statute were applied to the "everybody wins" element of its promotions. Michigan Bulb's management has been advised of the risks raised by these state statutes.

 Sweepstakes dependency and governmental regulation were not noted as material risks to MBC either by Awerdick, or in Price Waterhouse's audited financial statements for that year.

  26. Awerdick wrote a similar letter to Price Waterhouse dated February 22, 1995. That letter contained a paragraph substantially similar to the passage quoted in the foregoing paragraph, except that the February 22, 1995, letter deleted the sentence, "I know of no current attempts to enforce these laws against traditional conventional direct mail sweepstakes operators," which had been included in Awerdick's 1994 letter because by that time, MBC had received a sweepstakes inquiry from the North Carolina Attorney General. Awerdick also indicated that there was a trend among states to use consumer protection laws to regulate sweepstakes, particularly where businesses were using 900 numbers, offering time shares, vacation homes, camp sites, or required attendance at a sales presentation to win a prize. Awerdick advised MBC of these risks, but never advised MBC to stop using "everybody wins" promotions or warned that any required changes would result in a significant adverse financial impact for MBC. Again, sweepstakes dependency and governmental regulation were not noted as material risks to MBC either by Awerdick, or in Price Waterhouse's audited financial statements for that year. Page 13

  Attorney General Inquiries

  27. MBC, like other mail order companies, regularly received inquiries from third parties, such as Attorneys General, Better Business Bureaus, and Action Lines. In fact, MBC received 5,769 inquiries from such third parties in 1992, 3,269 in 1993, 4,413 in 1994, and 3,326 in 1995.

  28. MBC's president, Ostertag, reported to Pellegrino. Pellegrino talked with Ostertag three to four times a week, and knew of inquiries from state attorneys general.

  29. Dale Fujimoto ("Fujimoto"), MBC's Senior Vice President of Marketing, testified that these inquiries amounted to less than 1% of the approximately 17 million promotions that were mailed by MBC during these time frames and were routinely handled in the normal course of business. These inquiries were considered to be a routine part of the direct mail order business and were not viewed as a matter of concern to either MBC or F&G management.

  30. In and before 1995, MBC had responded to inquiries regarding sweepstakes from the attorneys general of Arkansas, Indiana, Iowa, Maryland, Michigan, Nebraska, North Carolina and Oregon. Many of those inquiries involved MBC's "everybody wins" promotions. Other inquiries involved disclosure of the odds of winning in connection with MBC's sweepstakes promotions.

  31. Specifically, the inquires received by MBC in and before December 1995 included:

  a. Inquiries from the Arkansas Attorney General's Office in April 1992 and June 1993 regarding the Arkansas Mail and Telephone Consumer Product Promotion Fair Practices Act. Page 14

b. A December 1, 1994, inquiry from an Assistant Attorney General with the Consumer Protection Section of the North Carolina Department of Justice asserting that various representations in MBC's mailing were deceptive and that the "everybody wins" element of MBC's mailing violated North Carolina law.
c. An August 18, 1995, inquiry from the Maryland Attorney General's office regarding a notification which gave the impression that the recipient was the winner of a sweepstakes and attached a copy of Maryland's Consumer Protection Act which prohibited certain solicitations.
d. On September 22, 1995, Awerdick responded to a consumer complaint from the State of Michigan by advising Stumb that they "need to discuss the piece involved too. It is an old one which refuses to die but may need the assistance of Michigan's most notable forensic physician (the honorable Dr. K.)." Stumb understood the reference to "Dr. K" to refer to Dr. Kevorkian, known as the death doctor. After a meeting with two representatives of the Michigan Attorney General's office in June 1996, MBC's Stumb agreed that that particular solicitation was "misleading and cannot be defended."
e. An October 4, 1995, inquiry from the Indiana Attorney General's office, stating that MBC "may have violated" the state's Promotional Gifts and Contests Act and requesting that MBC agree to enter into an Assurance of Voluntary Compliance.
  f. On October 11, 1995, the Iowa Department of Justice wrote to MBC, suggesting that MBC's solicitation sent to an Iowa consumer did not comply with Page 15 Iowa's Prize Notification Law and requesting that MBC immediately discontinue use of all prohibited solicitations in Iowa.
g. On December 14, 1995 the State of Nebraska Attorney General issued a Civil Investigative Demand to MBC. The demand was received by MBC on December 19, 1995.
  32. To a casual observer lacking the context that was provided during the trial, this list of inquiries might well appear ominous, and it might seem that the officers and directors of F&G were negligent for not having been more concerned about these inquiries. However, it is important to note that none of these inquiries ultimately led to any enforcement action against MBC or otherwise had a material financial impact or other adverse consequences on MBC. These inquiries were each resolved without further action after MBC's Attorney Awerdick provided additional information indicating why MBC believed that its practices were either exempt from or not in violation of state law. The resolution of such inquiries was considered to be a routine part of the mail order business.

  33. Defendants' sweepstakes expert Stephen Durchslag ("Durchslag"), an attorney at a reputable Chicago law firm with many years of experience in the field, provided credible and unrefuted testimony that while the inquiries received by MBC in 1995 did need to be addressed, sweepstakes law experts would not have considered them to have been serious or an indication that MBC was at risk of substantial regulatory or enforcement problems. Rather, the receipt of consumer contacts and letters of inquiry from state attorneys general following up on consumer complaints is par for the course in the sweepstakes marketing industry, and the frequency of the Page 16 inquiries received was not surprising given the large number of customer contacts distributed by MBC. Durchslag also testified that the sweepstakes and regulatory issues that were experienced by MBC prior to December 20, 1995, were not material at that time and that his answer would remain the same even if the time frame were expanded to include the inquiries which were formally resolved by voluntary assurance or settlement with the states of Michigan, Connecticut, and Vermont in the years that followed.

  34. Plaintiffs offered the expert testimony of Professor Charles Linke ("Linke"), a retired professor of finance and business finance/investment consultant, that during the course of his engagement for this litigation, he asked a librarian to perform a computer database search for articles involving sweepstakes. Several of those articles were admitted into evidence at trial. Although Linke thought that some reference to sweepstakes risk should have been included in Houlihan's valuation as part of an inquiry into whether MBC could sustain its record of profits over time, he could not say that, given the literature available and knowledge of MBC's record of profits, F&G management should have foreseen that the company would fail in 1998. Linke also conceded that from his review of the literature, it appeared that states were not trying to eliminate sweepstakes marketing, but rather trying to establish some regulations to address deceptiveness, and no one in 1995 predicted the total collapse of the sweepstakes market. Durchslag echoed the observation that the collapse of the sweepstakes marketing industry that occurred in 1998 was not foreseeable in 1995.

  35. Given the fact that in 1995, experts in the industry did not foresee the collapse of the sweepstakes marketing industry, it would be unreasonable to suggest Page 17 that F&G's officers and directors should have been able to predict that the sweepstakes marketing industry would collapse or encounter serious problems in the foreseeable future.

  36. Plaintiffs' experts Linke, Wolski, and James Hitchner ("Hitchner") suggested that because there were some articles about sweepstakes issues in newspapers, periodicals, trade journals, everyone involved in the ESOP II transaction should have known that sweepstakes posed a material risk to F&G. However, while these articles are certainly part of the historical mosaic of what the realities were in 1995, many of the articles did not address the marketing practices used by MBC. Durchslag noted this distinction in his testimony, describing the news articles as insignificant to the industry and mostly addressing marketers who were not actually selling products, telemarketer abuses, and instances of outright fraud. Defendants' valuation expert, Robert Reilly ("Reilly"), also performed industry research and noted that the articles in existence prior to December 20, 1995, were largely from the general press, which he considered to be less reliable than industry journals, as well as the fact that many of the articles were not specifically relevant to F&G or businesses like it.

  37. Plaintiffs did not offer expert testimony on the important point of a contemporaneous observation of trends within the sweepstakes marketing industry or the state of the industry itself in 1995, which is the key inquiry here, as the Court must determine what was and was not a material risk in December 1995, hopefully without simply relying on the distorting effects of hindsight. Defendants' expert, Durchslag, was the only legal expert witness presented at trial who was actively involved in the Page 18 sweepstakes marketing industry in December 1995 and the preceding years; he testified to the state of the industry based on his personal involvement and experience.

  38. Durchslag testified that sweepstakes had been a legitimate and important part of a promotional mix to involve and reach customers since 1890. He indicated that MBC's use of fictional names on customer communications, which was repeatedly criticized by Plaintiffs at trial, was an accepted practice in the industry to avoid privacy intrusions for the customer service representatives and provide continuity over time.

  39. Unlike Plaintiffs' experts, Durchslag was truly an expert in the field of sweepstakes marketing at the time of the 1995 transaction and was not testifying based on recent research attempting to recreate the state of the industry with the benefit of hindsight. Consequently, his testimony was more credible.

  40. Given this expert testimony, the Court cannot find that there was anything about the frequency or nature of customer or third party inquiries that either caused or should have caused F&G to have been on notice of a present or future material risk associated with its sweepstakes marketing. The Court must also conclude that at the time of the 1995 transaction, there was no material risk to F&G resulting from either MBC's sweepstakes dependency or government regulation of the direct mail/sweepstakes marketing industry.

  Annual ESOP Valuations by Valuemetrics

  41. Valuemetrics, Inc. ("Valuemetrics") performed an annual valuation of F&G shares for the ESOP every year from 1988 through 1994. Page 19

  42. Valuemetrics determined that the fair market value of the capital stock of F&G was $99.7 million on a marketable minority basis as of December 31, 1992. At that time, MBC was separately valued at $21 million on a minority basis

  43. Valuemetrics determined that the fair market value of the capital stock of F&G was $117 million on a marketable minority basis as of December 31, 1993. At that time, MBC was separately valued at $34 million on a minority basis.

  44. Valuemetrics determined that the fair market value of the capital stock of F&G was $162 million on a marketable minority basis as of December 31, 1994. According to Valuemetrics, F&G had increased in value by about $45 million, or 38%, in 1994. Although Valuemetrics did not separately value MBC, MBC's projected operating income was about 50% of F&G's total projected operating income for 1994 through 1999.

  45. In 1995, MBC accounted for about 61% of F&G's total earnings.

  The 1995 Stock Purchase Transaction

  46. Foster learned in the summer of 1994 that he was dying and took steps to get his estate in order and to provide for the transition of the management of F&G. 47. Valuemetrics, which had been retained as a financial advisor with the 1988 ESOP and had since conducted the year-end stock valuations for Magna Bank as the ESOP trustee, was asked to determine what options were available for liquidating a portion of Foster and Regal's stock, as well as possible strategies for ownership transition. Valuemetrics analyzed several alternatives, including bringing in a new shareholder to purchase shares from Foster and Regal or selling the company to a strategic third party buyer, an initial public offering ("IPO"), and a second ESOP. The Page 20 stated goals of Foster and Regal were to provide at least 50% immediate liquidity of their F&G stock and to maximize the present value of their after-tax proceeds received from the sale of the stock and their residual shares of F&G stock. The stated goals of F&G were to maintain adequate operating cash flows to allow the pursuit of other acquisitions and investment opportunities, to broaden the ownership of its stock to its employees, and to provide sufficient financial incentives for key employees to successfully manage the company. Valuemetrics estimated that F&G could take on an additional $75 million in debt and still maintain its working capital requirements.

  48. Foster expressed a concern that F&G's "present corporate product lines, and their attendant sales and profits, will not likely make desirable disclosure fodder" for an IPO but also expressed a desire for F&G to continue as a viable legacy business in a closely-held, private company. At trial, Plaintiffs suggested that Foster's comment was an early explanation of a later effort to conceal information regarding MBC's sweepstakes marketing practices. However, the credible weight of testimony established that the comment was an acknowledgement that F&G's primarily mail-order horticultural business was not glamorous or "sexy" enough to spark the public interest necessary to make an IPO successful.

  49. Valuemetrics recommended the $70 million leveraged ESOP from among the various alternatives, because it met the most objectives of any option. The board also concluded that the ESOP transaction was the only option that would guarantee that Foster & Gallagher as they knew it would not be liquidated, restructured, or relocated to another part of the country by a new owner, potentially leaving its employees jobless. Page 21

  50. In early 1995, Foster, Regal, Pellegrino and others began a series of meetings to plan ESOP II. In March 1995, Attorney Joseph Z. Sudow ("Sudow"), of Kavanagh, Scully, Sudow, White & Frederick, P.C. (the "Kavanagh Firm"), who was F&G's corporate attorney, advised Foster and Regal that for a re-leveraged ESOP II, they should think in terms of an amount of leverage that would not affect F&G's ability to generate enough cash to service the debt obligation. Sudow further advised Foster and Regal that "ERISA generally provides that a fiduciary (which could include not only the trustee, but officers, directors and control shareholders) shall discharge his or its duties solely in the interest of the participants and beneficiaries and for the exclusive purpose of providing benefits to participants and beneficiaries and for defraying reasonable expenses of administering the plan. . . .'"

  51. For purposes of the ESOP II transaction, Sudow and the Kavanagh Firm represented Foster and Regal personally. Other counsel, namely Mayer, Brown & Platt, was retained to represent F&G in the transaction.

  52. On March 16, 1995, Valuemetrics offered to assist the ESOP administrative committee and F&G's board of directors in outlining and reviewing the significant elements of a subsequent sale or sales of stock to the ESOP. By March 23, 1995, Foster had told Dickes, F&G's Executive Vice President, to go ahead with the Valuemetrics proposal.

  53. In May 1995, Valuemetrics formally issued its ESOP valuation of F&G as of December 31, 1994, for which all of the substantive work had been completed prior to the end of 1994. In this valuation, Valuemetrics determined that the fair market value of F&G capital stock was $162 million on a marketable minority basis. Page 22

  54. By the time the valuation formally issued, Valuemetrics was also consulting with F&G about ownership transition strategies and the expanded use of the ESOP as a means of achieving the desired purchase or liquification of the stock holdings of the selling shareholders, including Foster and Regal. Based on the assumption that the shareholders wanted liquidity in the near term and for F&G to remain healthy and viable, Valuemetrics concluded that: (1) a large leveraged ESOP ($50-70 million) or a recapitalization would meet those goals; (2) an ESOP of this size would be able to acquire a significant number of shares but would not be able to buy all of the remaining shares; (3) the selling shareholders could take advantage of favorable tax treatment; (4) a recapitalization would allow the shareholders to sell their entire interest but would result in capital gains tax; and (5) an initial public offering ("IPO") of the stock would be less desirable because the market might restrict the amount of shares the controlling shareholders could sell as part of the IPO.

  55. Given the primary goals of these shareholders, Valuemetrics found a leveraged ESOP transaction and a recapitalization or sale of F&G to a strategic buyer to be "far superior" options.

  56. Concerned that Magna Bank did not have the necessary expertise and sophistication to manage the ESOP II transaction or continue as trustee once the ESOP became the majority shareholder of F&G, in June 1995, the F&G Board solicited recommendations from Valuemetrics for an experienced institutional trustee to assist them. Due to the sophistication of the proposed transaction, Valuemetrics recommended LaSalle Bank, U.S. Trust, and State Street Bank & Trust as trustees. Page 23

  57. In 1995, Norman Goldberg ("Goldberg") was the manager of U.S. Trust's Washington, D.C. office and acted on behalf of its Special Fiduciary Committee when U.S. Trust served as an institutional trustee for transactions involving ERISA issues. Prior to joining U.S. Trust, Goldberg had held several positions relating to fiduciary duties under ERISA plans, including eight years supervising most of the ERISA litigation brought by the Secretary of Labor. Only a few firms and investment brokers provide this kind of specialized service.

  58. In late June 1995, Goldberg sent Sudow a letter and copies of articles that described U.S. Trust's services. According to the materials provided by Goldberg:
a. Fiduciaries of employee benefit plans that acquire and hold employer securities are required to make investment decisions that are often financially complex and are made more difficult by the conflicts typically inherent in such transactions by virtue of management and/or other "insider" involvement.
b. The "standards under which independent fiduciaries are expected to act are in many respects complex, requiring the close scrutiny of experienced professionals who are involved in the difficult business of investment decisions on a day-to-day basis."
c. ERISA generally holds fiduciaries to a higher standard than imposed on fiduciaries under the common law, and the standard of scrutiny is at its highest level when a fiduciary is acting on behalf of a leveraged ESOP.
  d. An independent fiduciary acting on behalf of an employee benefit plan in a transaction involving employer securities should perform a diligent and objective Page 24 review of all relevant facts and also assure that all information on which judgments will be based is current.
e. The extent to which a fiduciary may properly rely on the opinion of a financial advisor depends on whether material information exists that would render the opinion invalid or unreliable, and on the reasonableness of forecasts on which the valuation is based.
  59. In June 27, 1995, Lyle T. Dickes ("Dickes"), F&G's Executive Vice President, distributed an Interoffice Memo to Regal, Foster, Pellegrino and others about the discussion agenda for "Norman Goldberg's-U.S. Trust visit."

  60. On June 28 and 29, 1995, Goldberg traveled to Peoria and met with Foster, Regal and others in F&G's board room. Goldberg described the meeting as "a fairly expansive discussion." Goldberg engaged "in a lengthy conversation about Foster and Gallagher, its history, the reasons for the transaction, the nature of the business, their expectations" to get a clear understanding of the company. MBC was described as a "meaningful part of the company," and Goldberg understood where MBC fit into F&G's tradestyles and that it had a sweepstakes component. F&G management, including Regal and Pellegrino, also interviewed Goldberg about his and U.S. Trust's experience with ESOP and ERISA matters.

  61. In a telephone call on June 30, 1995, Goldberg advised Dickes that U.S. Trust's fee for the proposed transaction would be $75,000. Goldberg also advised that the expected range of cost for legal fees in connection with the transaction would be from $40,000 to $60,000. Page 25

  62. By July 5, 1995, F&G had reached an agreement with U.S. Trust for its fee schedule regarding the contemplated ESOP transaction, which included fees for the transactional decision and a three-month period of follow-up services as the independent fiduciary.

  63. In July 1995, Valuemetrics issued another valuation, reporting that as of July 20, 1995, the value of F&G stock on a control basis was $229.2 million.

  64. In July 1995, Sudow proposed to Foster, Regal and Pellegrino "that Pelle[grino], Lyle [Dickes], Fred [Stuber, F&G's Senior Vice President of Finance and Secretary] and Mike [Norbutas, F&G's Treasurer] be out in front as the committee that carries out the instruction from the Board [implementing ESOP II] (so that there is no apparent conflict of interest on the part of Tom [Foster] and Mel [Regal])." Regal understood that because of the conflict of interest referred to by Sudow, Regal and Foster should not be part of the due diligence if the ESOP II transaction proceeded.

  65. On August 28, 1995, U.S. Trust entered into an engagement letter with Sonnenschein, Nath & Rosenthal (the "Sonnenschein Firm") to confirm the terms and conditions on which the firm would represent U.S. Trust with respect to the proposed transaction.

  66. Goldberg met with F&G representatives in Chicago on August 28, 1995, to further discuss the proposed transaction. On August 30, 1995, Goldberg wrote to Regal to confirm the understanding and agreement between F&G and U.S. Trust "with respect to certain professional services to be provided by U.S. Trust to the Foster & Gallagher, Inc. Employee Stock Ownership Plan and related Trust established by the Company (collectively, the `Plan')." Among other things, the letter stated: Page 26

1. Foster and Gallagher, Inc. (the "Company") desires to retain U.S. Trust Company of California, N.A. ("U.S. Trust") as the independent trustee of the Foster & Gallagher, Inc. Employee Stock Ownership Plan (the "ESOP") in conjunction with a possible purchase of Company stock by the ESOP and related actions (hereinafter collectively referred to as the "Proposed Transaction".
2. It is understood that in exercising its responsibilities pursuant to this Agreement, U.S. Trust will rely on the written opinion of the Plan's independent financial advisor that (i) the consideration to be paid by the Plan is not in excess of "adequate consideration" within the meaning of Section 3(18) of ERISA; (ii) the Proposed Transaction is fair and reasonable to the Plan from a financial point of view; and (iii) the terms and conditions of the acquisition loan are fair and reasonable to the ESOP from a financial point of view (the "Financial Opinion"). If for any reason the Financial Advisor does not provide the Financial Opinion in form satisfactory to U.S. Trust at or prior to the Closing, U.S. Trust will not be required to make a final determination whether to participate in the Proposed Transaction. Although the fees and expenses incurred by U.S. Trust pursuant to this Agreement will be paid by the Company, it is understood that U.S. Trust's sole professional responsibilities are to the Plan and the Plan Participants.
3. The Company will furnish or cause to be furnished to U.S. Trust or its Financial Advisor all current and historical financial and other information regarding the Company requested by U.S. Trust to perform its obligations hereunder. The Company represents that the information which it provides will be accurate and complete in all material respects to the best of its officers' knowledge and it is understood that U.S. Trust will rely on the accuracy of that representation to carry out its responsibilities pursuant to this Agreement.
The engagement letter also included a provision indemnifying U.S. Trust from liability unless U.S. Trust was found to have acted negligently. On August 31, 1995, Dickes signed the engagement letter with U.S. Trust on behalf of F&G.

  67. Regal had met with representatives of Houlihan, Lokey, Howard & Zukin ("Houlihan") in June 1995. On July 10, 1995, before U.S. Trust had been engaged to act in connection with the 1995 ESOP II transaction, Houlihan wrote to Regal to confirm that Houlihan would provide a fairness opinion for the proposed transaction for a fee of $35,000. The letter went on to say that when the transaction was defined and the trustee determined, Houlihan would send an engagement letter. Page 27

   68. In late September 1995, U.S. Trust entered into an engagement letter with Houlihan. Houlihan was engaged to provide assistance in evaluating the transaction from a financial perspective and to render a written opinion to U.S. Trust as to whether the proposed stock transaction was fair to the ESOP from a financial point of view for a fee of $35,000. The engagement letter provided that although Houlihan would report solely to U.S. Trust, F&G would pay Houlihan's fees and expenses. Further, Houlihan would use, rely on, and assume the accuracy of, "without independent verification, data, material, financial forecasts and projections and other information with respect to the Company [F&G] and its agents, counsel, employees and representative[S]." There is no claim in this case that Houlihan was in any way unqualified to serve as the financial advisor to U.S. Trust, and it is undisputed that Regal and Pellegrino understood that Houlihan was a nationally recognized financial advisor with substantial ESOP expertise.

   69. On September 30, 1995, Valuemetrics issued its first transaction memorandum to the F&G board of directors describing a proposed offer to sell 2,916,667 shares to the ESOP at $24.00 per share. Valuemetrics noted that the memorandum included certain statements, including projections, with respect to the anticipated future performance of F&G and cautioned that: (1) such statements were based on various estimates and assumptions by F&G, which estimates and assumptions might or might not prove to be correct; (2) although the projections contained therein had been prepared with significant good faith input from F&G's management, such projections involved significant elements of subjective judgment and analysis and would be materially different if different estimates and assumptions were employed; and (3) no representation was made as to the accuracy of any such Page 28 statements, and there could be no assurance that the projected results would be obtained.

   70. Pellegrino provided background information to Valuemetrics, and approved "top line" financial information provided to Valuemetrics. Pellegrino reviewed the projections with Regal, and Foster also looked at the projections. Regal reviewed the projections, and understood that Valuemetrics, U.S. Trust and Houlihan were relying on the projections provided by F&G management.

   71. The ESOP II transaction as initially proposed can be summarized as follows: (1) F&G's board of directors would authorize the conversion of the current Executive Incentive Plan ("EIP") from a book value basis to a market value basis, which would create a significant income tax benefit to F&G; (2) F&G's management employees would have the opportunity to exercise 527,141 EIP options at an average exercise price of $4.60 per share; (3) of the 2,916,667 total shares offered to the ESOP, 1,790,243 shares would be offered on a pro-rata basis from Foster and Regal, and 1,126,424 shares would be offered by management, either through the sale of existing shares or through the exercise of options granted as part of the EIP; and (4) those employees who sold shares to the ESOP would have an opportunity to purchase, on a pro-rata basis, 626,858 newly issued, restricted shares at market value. Following this transaction, the ESOP would have a majority ownership interest in F&G.

   72. On October 6, 1995, Regal sent a confidential interoffice memo to Foster, Pellegrino and others, advising that on Tuesday, October 17, 1995, Goldberg and Michael Shea ("Shea") of U.S. Trust and Martin Sarafa ("Sarafa") and Todd Strassman ("Strassman") of Houlihan would be at F&G to perform due diligence regarding the Page 29 ESOP II transaction. Regal advised that Goldberg, Shea, Sarafa and Strassman would want to spend about forty-five minutes with the heads of the various functional areas, and asked the recipients to keep their time flexible that day.

   73. On October 17, 1995, Goldberg, Shea, Sarafa, and Strassman met with executives of F&G to perform due diligence regarding the ESOP transaction. They met with Regal, Pellegrino, Frederick Stuber ("Stuber"), Dickes, Sudow, Ostertag, and others a various times for most of the day. Regal, Pellegrino, Dickes, Ostertag, and Stuber each sold shares to the ESOP on December 20, 1995.

   74. Ostertag, who was then President and CEO of MBC and later became President and CEO of F&G, was involved in the meetings with Houlihan and U.S. Trust on October 17, 1995. Ostertag gave an overview of MBC, including an explanation of changes that he had made since becoming president in 1992 and strategies for the future of the company. He also discussed some risks to the business, including increased postage rates, Department of Agriculture regulations, and competition from Wal-Mart and other mass retailers entering the horticultural market.

   75. Goldberg recalls a discussion that day with Ostertag involving MBC and its sweepstakes marketing. Ostertag discussed "the success and general role that sweepstakes played in" MBC. Ostertag also discussed that MBC's average customer was over fifty years of age, with an average income of about $35,000, with a high school education, and "tied to sweepstakes." Ostertag described MBC's business as marketing driven, in comparison to the other F&G businesses which were merchandise driven, and noted MBC's desire to develop other promotions as part of an overall strategy to diversify and broaden its customer base. Page 30

   76. MBC's mailings to its "house file" of past customers had increased from twenty to twenty-six to thirty-four promotions per year. Ostertag told Goldberg that MBC had "started ramping up circulation" in 1995. Ostertag related that from January to June 1996, MBC expected to mail 17 million sweepstakes pieces. MBC was beginning to try to sell more and different products, like jewelry and comforters, to its house file.

   77. Ostertag was asked about risks associated with MBC's business and responded that MBC's management does not put the business at risk. Ostertag said that retail competitors like Wal-Mart and K-Mart were a risk but that those retail competitors could not compete, that postage factors were a small problem, and that MBC needed new names for mailing lists.

   78. At the October 17, 1995, meeting, Ostertag did not identify government regulation of sweepstakes as a risk. Nor did any other F&G representative identify either dependency on sweeps or possible government regulation of sweepstakes as a risk to MBC during the October 17, 1995 meetings. There was no discussion that MBC's dependency on sweepstakes was a negative. There was no discussion about any pending attorney general investigations into MBC's sweepstakes marketing, and no discussion regarding state laws that regulated MBC's sweepstakes marketing. F&G representatives did not give Houlihan any reason to believe that there were any negative issues relating to MBC's sweepstakes.

   79. During the October 17, 1995, meeting, Regal told Sarafa and Strassman that the key to MBC was sweepstakes, that sweepstakes would be the key to new product growth, and that normally sweepstakes do not generate loyal customers. The Page 31 gist of Regal's comments was that MBC would continue to use sweepstakes and that sweepstakes would be one of the keys to driving the future growth of MBC.

   80. Credible testimony from F&G officers indicated that state regulation and sweepstakes issues were not considered to be material at any time prior to the ESOP II transaction.

   81. While exact percentages of revenue may not have been known, the U.S. Trust team was well-aware that MBC was a major profit center for F&G and that MBC used sweepstakes marketing as its primary sales tool.

   82. During this meeting, Shea recalls being provided with a number of MBC catalogs, but it was more for him and Goldberg to see the various types of catalogs and offerings so they could better understand the overall business. Shea does not recall anything specifically about the sweepstakes solicitations he saw that day.

   83. Ostertag took Shea on a tour of MBC's facilities in Grand Rapids on October 18, 1995. Ostertag testified that Fujimoto, Stumb, and Dave Grimm, MBC's senior vice presidents, accompanied them on the tour. The tours that MBC provided typically included the mail room, customer service, and data entry, as well as an area in which the creative department was located. Ostertag does not remember any discussions with Shea on October 18, 1995, regarding sweepstakes, and does not recall Shea asking to review any of MBC's files.

   84. Shea does not specifically recall the individuals he met with in Grand Rapids on October 18, 1995. He does recall receiving an explanation of how one organizes a catalog, but does not specifically recall anything else about the meetings in Grand Rapids. Shea does not recall any discussions on October 17 or 18, 1995, Page 32 regarding any pending regulatory investigations into MBC's sweepstakes marketing or the number of customer complaints that MBC received with respect to sweepstakes marketing.

   85. On the record presented at trial, the Court cannot find that Foster, Regal, or Pellegrino attempted to conceal information or make less than full disclosure to the U.S. Trust team either in connection with the October 1995 meeting or at any other time leading up to the transaction. The evidence indicated that Regal and other F&G officers directed F&G employees to provide all information requested by the U.S. Trust team, and they were never informed that the U.S. Trust team had been denied access to any information or had met with any resistance.

   86. During roughly the same time frame, B.A. Securities, a subsidiary of Bank of America corporation, conducted its own diligence of F&G and issued a private placement memorandum for potential lenders in the prospective ESOP transaction. The memorandum stated that F&G intended to issue a $70 million loan to the ESOP for the purpose of financing the ESOP's purchase of stock from existing shareholders and sought a corresponding loan from institutional lenders. Although the memorandum stated that F&G was subject to Federal Trade Commission regulations governing advertising and trade practices, it did not identify sweepstakes as an inherently risky promotional tool or identify any legal or regulatory sweepstakes risk. By November 20, 1995, BA Securities had successfully located four institutional lenders, including two lenders from the 1988 ESOP transaction, who, in combination, were willing to loan F&G the requested $70 million on favorable terms (e.g., no collateral and at a low interest rate) that were acceptable to F&G. Page 33

   87. Ostertag had mentioned during the meeting with U.S. Trust and Houlihan that MBC did have a strategic plan document that had been prepared in August 1995, but Shea and Goldberg did not review any MBC strategic plans during that meeting. Rather, some time between the meeting and the closing of the transaction, Goldberg and Shea received MBC's 1996-1998 ...

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