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March 28, 1985

CHARLES S. FOLTZ, et al., Plaintiffs,
U.S. NEWS & WORLD REPORT, INC., et al., Defendants

Barrington D. Parker, District Judge.

The opinion of the court was delivered by: PARKER

Barrington D. Parker, District Judge:


 This class action litigation arises from the sale of the defendant U.S. News and World Report, Inc. ("U.S. News") in October of 1984. The shareholders of this employee-owned company realized $ 176 million from the sale in return for their interests in the company. The $ 176 million sales price represented a value approximating $ 3,000 per share of the company's outstanding stock. At the time of the sale, the employee-shareholders, including the individual defendants in this proceeding, liquidated their interests in U.S. News at this value.

 The plaintiffs in this class action represent all former employee-shareholders of U.S. News who retired or otherwise terminated their employment between 1974 and 1981. When they left the employ of the company, these individuals liquidated their stock and profit-sharing interests in U.S. News at values established by annual appraisals conducted by defendant American Appraisal Associates, Inc. ("American Appraisal"). The plaintiffs assert that those appraisals were flawed, improperly developed and not in accordance with accepted procedures, which resulted in gross deficiencies in the amounts they received for their interests in the corporation. They also allege that the present employees who received the sale proceeds benefited from the undervaluation during the 1974-1981 class period.

 The defendants are U.S. News and its wholly-owned subsidiary, Madana Realty, American Appraisal, and the Profit-Sharing Plan of U.S. News ("Plan"), an employee benefit plan whose members are current and recently retired employees of U.S. News. Eight individuals have also been named as defendants -- John Sweet, Marvin Stone, William Dunn, Samuel Keker, Lester Tanzer, John Touhey, Raymond Naimoli, and James McIlhenny. They served on the Board of Directors ("Board") of U.S. News during the relevant time period.

 The matter is presently before the Court on the plaintiffs' application for an order preliminarily enjoining and restraining the Profit-Sharing Plan and U.S. News from distributing the lion's share of the proceeds of the sale, pending the outcome of this litigation. *fn1" The Plan received approximately $ 135 million from the proceeds of the sale. As of the end of 1984, the assets of the Plan equalled approximately $ 138.5 million, including interest on short-term investments. U.S. News also holds certain assets in the form of payments due on notes held by six of the individual defendants, payable over 15 years. These debt obligations represent the deferred compensation owed to these defendants.

 In January 1985, counsel for the Plan notified the Court and the parties to this proceeding that it would honor requests of Plan members for a full or partial distribution of their account balances, effective March 31, 1985. The plaintiffs responded to this announcement by filing a motion for a preliminary injunction seeking to enjoin all disbursements by the Plan and U.S. News.

 After considering the legal memoranda, supporting affidavits, extensive exhibits, and the oral argument of counsel for the parties, the Court determines that the plaintiffs have not sufficiently satisfied two of the stringent criteria that are a predicate to the extraordinary relief they seek. They have failed to demonstrate that they will sustain irreparable harm and injury in the absence of injunctive relief at this time. Nor have they satisfactorily responded to the concerns and questions presented by the present employee-shareholders who have lawful claims to the remaining undistributed proceeds from the sale, and who are not charged with any wrongdoing. Accordingly, the plaintiffs' motion for a preliminary injunction is denied. The reasons for this determination are set forth below.


 A brief review of the types of interests possessed by U.S. News' employees is helpful to an understanding of this litigation. Beginning in the early 1960's, U.S. News rewarded its employees for their services with two types of stock-related interests: a proportionate share of the value of the stock held in the Plan, and bonus or anniversary stock. The class members received payments for these interests upon termination or retirement. Following the 1984 sale, the current U.S. News' employees also received payments representing the value of each of these interests. The plaintiffs do not directly seek any preliminary relief against payments for bonus stock; those funds have already been dispersed. However, since both interests are relevant to the plaintiffs' claim for damages, they deserve some discussion.



 Bonus Stock

 Profit-Sharing Plan

 In 1962, U.S. News was reorganized for the purpose of transferring the beneficial ownership and management of the corporation to its employees. After the reorganization, the company maintained an existing profit-sharing trust or plan, whose assets included 30,000 shares of Class A stock of the corporation, later increased to 50,000 shares. The Class A stock had full voting rights. Since the reorganization, the value of the stock has been based on an annual appraisal rendered by American Appraisal.

 The Plan was managed by a Profit-Sharing Committee, whose members were appointed by the Board of Directors. Board members frequently served as members of the Profit-Sharing Committee. All of the individual defendants, with the exception of Tanzer and Tuohey, were members of the Committee at some point during the relevant period. *fn2" Each employee's interest in the Plan was based on his proportionate share of the value of the Plan assets. An employee was required to liquidate his interests in the fund upon retirement or termination of his employment with U.S. News, either immediately or proportionately over a 10-year period.

 In 1967, U.S. News placed the Plan's stock in a voting trust, which was governed by six trustees. The trustees were chosen from among the principal officers and department heads of the company. Since the voting trust stock represented a majority of the corporation's outstanding stock, these trustees retained majority control of the corporation. Membership on the voting trust also overlapped with membership on the eight-member Board of Directors.

 Phantom Stock

 In addition to bonus stock awards and interests in the Profit-Sharing Plan, the members of the Board and certain senior employees also received deferred compensation in return for their expected services. This executive "perk," known as phantom stock, did not represent actual ownership rights in the corporation. Instead, it represented a contingent promise that U.S. News would pay sums measured by the value of its stock at the time the holder retired, died or became disabled, or in the event the company was sold. These rights were referred to as phantom stock because their value was equal to the value of regularly-issued stock.

 The phantom stockholders liquidated their interests when U.S. News was sold, based on a value of approximately $ 3,000 per share. In actuality, U.S. News gave each holder a 15-year corporate note in return for his deferred compensation claim. U.S. News will satisfy its obligation on the notes by 60 quarterly payments over this period. See discussion supra at 3. Thus far, the phantom stockholders have received one quarterly payment, and a second payment is due shortly.



 All of the plaintiffs' claims for relief are based on the allegation that they liquidated their stock and profit-sharing interests in U.S. News at grossly undervalued rates developed and provided by the defendants. To establish their entitlement to damages, the plaintiffs must prove that U.S. News stock was undervalued during the class period and that the undervaluation resulted from various violations of law and breaches of fiduciary duty by the defendants. Thus, the underlying data utilized in the appraisals and the appraisal methods themselves are central factors in this case.

 The starting point for the analysis of the issue is provided by the U.S. News' Articles of Incorporation. Section e of the Fifth Article provides that the parties shall reach an agreement concerning the fair market value of the stock, and in the absence of such an agreement, the value will be determined by an annual appraisal conducted by a "qualified appraiser of national standing." Px 2 at 9. *fn3" The record shows that U.S. News bypassed the provision calling for such an agreement, and instead, employed and relied upon the services and opinions of American Appraisal in determining the value of the stock.

 In connection with these annual appraisals, U.S. News routinely furnished American Appraisal with necessary financial information and other supporting data at the beginning of each year. American Appraisal then conducted interviews of U.S. News' managers, and announced the fair market value of the stock by the end of March. Finally, a report would be prepared which explained the basis for the appraisal. U.S. News utilized this information in calculating the bonus stock awards and purchasing the stock interests of employees who left the company during the following year.

 In turn, these figures were transmitted to the Plan Committee. The Committee based its valuation on Paragraph 6.3 of the Plan document, which specifically provides that

For all purposes of the Plan, the market value of shares of stock of the Employer, which are held by the Trustee as a part of the Fund, shall be the fair market value established under Article Fifth, Paragraph (e), of the Certificate of Incorporation of U.S. News & World Report, Inc.

 Px 6 at 13. The Committee then disbursed benefits to the employees according to their proportionate interests in the assets of the Plan.

 The plaintiffs raise five major challenges to the conclusions which formed the basis for the liquidation of their interests: failure to properly value U.S. News' significant real estate holdings, improper application of a marketability discount to reflect the fact that the stock was owned by a closely-held corporation, valuation of the stock on a minority basis rather than on a control premium basis, the inclusion of certain items as liabilities, and manipulation of the appraisals to match certain predetermined values fixed by U.S. News. Some of these accusations are directed at American Appraisal, others involve the complicity of U.S. News and the individual defendants. The remainder charge that the Board either negligently or intentionally concealed information which was necessary to accurately value the stock.

 These assertions are supported by affidavits filed by the plaintiffs' designated expert witnesses: John Hempstead and William Harps. Each has impressive ...

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