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Brincefield v. Studdard

United States District Court, E.D. Virginia, Richmond Division

December 4, 2018

STEVEN B BRINCEFIELD, on behalf of the Morton G. Thalhimer, Inc. Employee Stock Ownership Plan, and derivatively on behalf Of Morton G. Thalhimer, Inc., as Trustee of the Steven B. Brincefield Revocable Trust, Plaintiff,
v.
LANCE T. STUDDARD, et al., Defendants,
v.
MORTON G. THALHIMER, INC., Nominal Defendant.

          OPINION

          JOHN A. GIBNEY, JR., DISTRICT JUDGE.

         Steven B. Brincefield worked for Morton G. Thalhimer, Inc. ("Thalhimer"), a large commercial real estate firm. Brincefield owns Thalhimer stock and participates in the company's Employee Stock Ownership Plan ("ESOP"). After Thalhimer's stock prices declined significantly, Brincefield brought claims under the Employment Retirement Income Security Act ("ERISA"), as well as direct and derivative state law claims, against several defendants. In broad terms, Brincefield alleges that the defendants created the ESOP for their own benefit and concealed fraudulent accounting that caused the stock prices to plummet.

         All defendants moved to dismiss, and Thalhimer moved to terminate the derivative proceedings. The Court held a hearing and issued preliminary rulings on October 15, 2018. (Dk. No. 150.) This Opinion details those rulings and announces additional decisions.

         I. FACTS ALLEGED IN THE AMENDED COMPLAINT

         Brincefield worked for Thalhimer for 38 years before retiring in 2012. He owns stock through the ESOP and Thalhimer stock directly. Although companies typically use ESOPs to encourage employee stock ownership and provide retirement benefits, Brincefield alleges that Thalhimer's directors designed the ESOP to enrich themselves. Paul F. Silver, C. Lee Warfield, III, Evan M. Magrill, David R. Dustin, Jr., and Jeffrey S. Bisger (collectively, the "Director Defendants") have served on Thalhimer's Board of Directors and the ESOP's Board of Trustees. All have held various officer positions for Thalhimer or its subsidiaries for many years. The Director Defendants appointed Lance T. Studdard as Special Trustee of the ESOP.

         Brincefield alleges the defendants created the ESOP as a "Tax-Free Cash Warehouse" through a three-step process. (Am. Compl., at 14.) First, Silver and Bisger owned a controlling 77% interest in Thalhimer. In 2004, they sold 50.2% to the ESOP, but retained control as ESOP Trustees. In 2011, Silver and Bisger sold their remaining shares to the ESOP, loaning money at a high interest rate to Thalhimer to finance the transaction ("2011 Loans"). They appointed Warfield, Magrill, and Dustin as ESOP trustees. In 2016, Magrill informed Thalhimer shareholders that the ESOP would buy all remaining stock. Brincefield told Magrill that he would not sell his stock, and Magrill threatened that Thalhimer would no longer pay minimum tax distributions to shareholders after the sale. On June 20, 2016, Brincefield notified Thalhimer that the 1998 Shareholder Agreement required it to continue to pay minimum tax distributions.

         On June 30, 2016, Studdard finalized the offering price and all shareholders except for Brincefield sold their stock to the ESOP for above fair market value ("2016 ESOP Transaction"). The ESOP bought the stock with a large SunTrust loan. As ESOP trustees, the Director Defendants controlled the vast majority of Thalhimer stock. After the sale, Thalhimer did not pay minimum tax distributions to the ESOP or Brincefield.

         In September, 2016, Brincefield demanded documents as a shareholder. Specifically, he wanted to know the value of the company and why the Director Defendants stopped making minimum distributions. Thalhimer largely refused to turn over documents because Brincefield did not request them for "proper purposes." (Am. Compl., at 25.)

         In early 2017, Brincefield learned through a former Thalhimer colleague that (1) Thalhimer's stock value had plummeted; (2) the ESOP had overpaid for the stock in 2016; and (3) the Director Defendants engaged in conflicted transactions with the ESOP. In January, 2017, Dustin told Brincefield that Thalhimer expected a loss for the previous year. Brincefield made another demand for corporate records to research the loss. The documents he received revealed that the Director Defendants knew about Thalhimer's misleading financial statements in 2016. They also revealed that Silver, Bisger, Magrill, and Warfield made large, high-interest loans to Thalhimer so the company could pay the SunTrust loan from the 2016 ESOP Transaction.

         On February 16, 2017, the Director Defendants explained to the shareholders who sold their stock in the 2016 ESOP Transaction that MGT Construction ("MGT"), a subsidiary of Thalhimer, had not paid millions of dollars in expenses since 2014 and had engaged in fraudulent accounting practices. They also told the former shareholders to prepare to buy their stock back from the ESOP to help make up for the losses. With Studdard's help, the Director Defendants unwound the 2016 ESOP Transaction ("2017 Unwinding"). Even with the unwinding, Thalhimer's stock price dropped millions of dollars and the ESOP beneficiaries, including Brincefield, lost retirement savings.

         In addition to all of these shenanigans with the ESOP, the Director Defendants also directed many lucrative real estate investments away from Thalhimer and the ESOP to their own privately held companies. They often financed these investments with loans from Thalhimer, further decreasing Thalhimer's and the ESOP's value. Additionally, the Director Defendants forced MGT to provide services to other private companies without timely payment, exacerbating MGT's losses.

         On April 19, 2017, Brincefield sent a demand letter to Thalhimer, directing the company to take action against the Director Defendants. The company appointed a new board of directors consisting of Warfield, Magrill, Christopher E. Rouzie, John L. Vincie, III, and Michael N. Mulkey. The board appointed Vincie and Mulkey to a Special Litigation Committee ("SLC") to investigate Brincefield's claims. On January 8, 2018, it came as no surprise that the SLC concluded Thalhimer should take no action in response to Brincefield's demand. The SLC directed the company to move to dismiss any derivative claims in his complaint. Brincefield alleges the SLC's review did not comply with Virginia law. On April 20, 2018, Brincefield sent a second demand letter for Thalhimer to sue accounting firm Cherry Bekaert LLP. Thalhimer responded that it intended to pursue claims against Cherry Bekaert.[1]

         On October 26, 2017, Brincefield filed a complaint against the Director Defendants and Studdard. Brincefield amended the complaint on July 30, 2018, adding five new defendants who participated in the alleged breaches. The first new defendant, Cherry Bekaert, failed to identify MGT's fraud. The next, Corporate Capital Resources, LLC ("Corporate Capital"), provided consulting services to Thalhimer and the ESOP. William Gust, a lawyer for Gentry Locke and consultant for Corporate Capital, advised Thalhimer and the ESOP. Michael A. Coffey, the president of Corporate Capital, provided Thalhimer and the ESOP with consulting services.[2]The final new defendant, Sheldrick, McGehee & Kohler, LLC, provided stock valuation services to the ESOP, and settled with Brincefield before the Court heard the motions to dismiss.

         Brincefield brings ten counts in the amended complaint: (I) violation of ERISA § 406(a) against the Director Defendants, Studdard, Gust, Coffey, and Corporate Capital for causing the ESOP to engage in non-exempt prohibited transactions; (II) violation of ERISA § 404(a) against the Director Defendants, Studdard, Gust, Coffey, and Corporate Capital for breaching their fiduciary duties; (III) equitable relief under ERISA § 502(a)(3) for unjust enrichment against all defendants; (IV) a derivative action on behalf of Thalhimer against the Director Defendants for conversion;[3] (V) a derivative action on behalf of Thalhimer and on behalf of the ESOP against the Director Defendants[4] for statutory conspiracy; (VI) a derivative action on behalf of Thalhimer and on behalf of the ESOP against the Director Defendants for common law conspiracy; (VII) a derivative action on behalf of Thalhimer against the Director Defendants for breach of fiduciary duty; (VIII) an action by Brincefield directly and on behalf of the ESOP against Warfield, Magrill, and Dustin for breach of contract; (IX) a derivative action on behalf of Thalhimer against Cherry Bekaert for professional malpractice; and (X) an action by Brincefield directly and on behalf of the ESOP against Cherry Bekaert for professional malpractice.

         II. DISCUSSION

         A. Thalhimer's Motion to Terminate Derivative Proceedings

         Federal Rule of Civil Procedure 23.1(c) does not set forth a standard of review for motions to terminate derivative proceedings. Because the motion to terminate requires the Court to consider information outside of the complaint, the Court will apply the Rule 56 summary judgment standard. See Luzak v. Light, No. 1:15-cv-501, 2016 WL 3854118, at *2 (E.D. Va. July 8, 2016), aff'd, 678 Fed.Appx. 180 (4th Cir. 2017) (applying the summary judgment standard to a motion to dismiss derivative proceedings).

         Luzak also set forth requirements for terminating derivative proceedings filed after an SLC rejects a shareholder demand. Courts must decide whether the SLC "acted properly in concluding that litigating [] derivative claims was not in the best interests of the Company," pursuant to the Virginia Stock Corporation Act. Luzak, 2016 WL 3854118, at *3 (citing Va. Code Ann. § 13.1-672.4). To avoid dismissal, a plaintiff must show one of the following:

(1) that a majority of "disinterested" directors did not appoint the SLC members; (2) that the SLC members themselves were not "disinterested"; (3) that the SLC did not conduct a review and evaluation, "adequately informed in the circumstances, of the allegations made in the complaint"; (4) that the SLC did not determine that maintenance of the derivative claims was not in the best interests of the Company; (5) that the SLC's determination was not made in good faith; [or] (6) that the SLC did not submit a "short and concise" statement in support of its decision.

Id. The Court, however, cannot make the determinations that Virginia law requires on the existing record. Thus, as in Luzak, Brincefield may pursue discovery before the Court rules on the motion. 2016 WL 3854118, at *2. The Court will decide the extent of discovery after reviewing the parties' briefing. Accordingly, the Court defers deciding the motion to terminate.

         B. ...


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