Opinion
00 Civ. 7438 (MGC).
November 30, 2000.
GOODKIND LABATON RUDOFF SUCHAROW, Attorneys for Plaintiff New York, New York, BY: Linda J. Grant, Edward Labaton, Diane Zilka, Stacey Fishbein.
PRYOR CASHMAN SHERMAN FLYNN, Attorneys for Defendants Philips International Realty Corp., Philip Pilevsky, Louis Petra, Sheila Levine, and Brian Gallagher, New York, New York, BY: James A. Janowitz Ilene S. Farkas.
RICHARDS SPEARS KIBBE AND ORBE, Attorneys for Defendants Elise Jaffe, Robert S. Grimes, Arnold S. Penner, and A.F. Petrocelli, New York, New York, BY: David Spears, Adam Mitzner, Margaret Martin.
MEMORANDUN OPINION AND ORDER
Plaintiff Zemel Family Trust brings suit, purportedly as a class representative, against Philips International Realty Corp. ("Philips") and the members of its board of directors. Although Barry Zemel, trustee of the Plaintiff trust, had only skimmed the proxy before the complaint was filed, the complaint alleges that Philips has solicited shareholder approval for a plan of liquidation by means of a false and misleading proxy statement in violation of Section 14(a) of the Securities Exchange Act of 1934 and its accompanying regulations. Plaintiff has moved preliminarily to enjoin Philips from proceeding with its plan of liquidation. On November 9, at the conclusion of the evidentiary hearing, in an oral opinion in open court, I denied the motion from the bench and said that this written opinion would follow to elaborate more fully the reasons for the ruling.
BACKGROUND
Philips is a publicly held real estate investment trust ("REIT") incorporated under the laws of Maryland. Its sole business is the ownership of real estate, mostly shopping centers, and the management of its properties. Philips was formed in late 1997 and completed an initial public offering on May 8, 1998. Currently, approximately 80% of its public shareholders are institutional investors.
The individual defendants are officers and directors of the company. Philip Pilevsky is the founder, CEO, and Chairman of the Board of Philips, as well as its largest single equity owner. Louis Petra is President of Philips and a member of its board of directors. Sheila Levine, Pilevsky's sister, is Chief Operating Officer of Philips and a member of the board of directors. Brian Gallagher, Elise Jaffe, Robert Grimes, Arnold Penner and A.F. Petrocelli are members of the board of directors.
Philips is structured as an umbrella partnership REIT, or UPREIT. The publicly held REIT is general partner of Philips International Realty, L.P. (the "Operating Partnership"), through which it holds title and operates its properties, and owns roughly 75% of the partnership units in the Operating Partnership. The remaining 25% of the partnership units is held by Pilevsky, members of his family and various other individuals and entities (the "unitholders") who are limited partners. The unitholders have no voting rights in Philips, but have the option of converting their units into Philips common stock on a one to one basis.
The company was formed, like most UPREITs, through contributions of property by the limited partners in exchange for partnership units. Pilevsky was the largest contributor and, as a result, owns the largest number of units. Under federal tax law, Pilevsky and the other unitholders did not recognize taxable gains on these exchanges. The units of each limited partner have the same tax basis as the contributed property. As a result, a unitholder who sells units or converts them into common stock is likely to incur a substantial tax liability.
In late 1999, Philips' board of directors, with the help of its financial advisor Prudential Securities Inc. ("Prudential"), began to review "strategic alternatives" in light of the poor performance of Philips' stock price. By March 2000 the board had finalized a plan of liquidation. The plan consisted of four segments. In the first segment, Philips sold several shopping center properties to Kimco, another REIT that deals in similar types of retail properties, for just over $67 million (the "Prior Kimco Transaction"). That transaction was completed in July 2000.
In the second segment, Philips will sell other shopping centers to Kimco for $137 million (the "Kimco Transaction"). In the third segment, Philips will exchange four shopping centers in Hialeah, Florida, with Pilevsky and some of his family (the "Pilevsky Group") in return for the redemption of their partnership units. In addition, the Pilevsky Group will purchase redevelopment properties in Lake Worth, Florida, and at 86th Street and Third Avenue in New York City. In the fourth segment, Philips will sell its remaining properties, all shopping centers anchored by K-Mart stores, on the open market.
According to the Proxy, Philips shareholders will receive cash distributions estimated at $18.25 per share following the liquidation. The unitholders, at their option, will receive the same cash distributions as the shareholders or exchange their units for comparable partnership interests in Kimco.
After finalizing the plan of liquidation, Philips' board established a Special Committee, consisting of outside directors Jaffe, Grimes, Penner and Petrocelli, to review the Pilevsky Group transaction. The Board retained Houlihan Lokey Howard Zukin Financial Advisors, Inc. ("Houlihan Lokey") to render an opinion as to the fairness of the Pilevsky Group transaction and the plan of liquidation as a whole. The Board also asked Prudential to opine on the fairness of the Kimco transaction. The Special Committee met twice and, on April 17, recommended that the plan of liquidation be adopted. The full board approved the plan of liquidation shortly thereafter.
On April 17, 2000, Philips publicly announced its plan to liquidate the company. On April 19, 2000, Plaintiff Zemel Family Trust purchased 2,000 shares of stock in the Company. On September 8, 2000, Philips' board of directors issued a proxy statement to Philips shareholders seeking approval for its plan of liquidation and giving notice of a special meeting to be held on October 10, 2000. at which the vote would be taken on the proposed liquidation. Plaintiff commenced this action on October 2, 2000, one week before the special meeting was to be held, and on October 4 made an ex parte motion for a temporary restraining order, expedited discovery, and a preliminary injunction to stop the shareholder vote and the consummation of the liquidation. I directed Plaintiff's counsel to serve the motion on Defendants and, after service was effected, called a conference to discuss the issues presented in the motion and the timing of the proceedings.
At the October 6 conference, the parties informed me that an agreement had been reached that Plaintiff would withdraw its motion for a temporary restraining order, the October 10 vote would proceed as scheduled, there would be expedited discovery and Defendants would not carry out the liquidation until a hearing had been held on the motion for a preliminary injunction. At the October 10 special meeting, approximately 80% of the shareholders voted and more than 99% of those who voted approved the plan of liquidation. The parties have briefed the issues and the evidentiary hearing has been held.
DISCUSSION
A preliminary injunction may issue only when the movant demonstrates (a) irreparable harm and (b) either (i) a likelihood of success on the merits of the underlying claim, or (ii) sufficiently serious questions going to the merits of the claim to make it fair ground for litigation, and the balance of the equities tips decidedly in favor of the movant. Reuters Ltd. v. United Press Intn'l, Inc., 903 F.2d 904. 907 (2d Cir. 1990);Lichtenberg v. Besicorp Group Inc., 43 F. Supp.2d 376, 384 (S.D.N.Y. 1999).
Plaintiff has shown neither a likelihood of success on the merits nor raised a sufficiently serious question going to the merits to entitle it to the extraordinary relief it seeks. To establish a violation of Section 14(a) of the `34 Act and Rule 14a-9, Plaintiff must show that the Proxy statement "is false or misleading with respect to any material fact, or . . . . omits to state any material fact necessary in order to make the statements therein not false or misleading." 17 C.F.R. § 240.14a-9 (2000); 15 U.S.C. § 78n(a) (1997); Virginia Bankshares v. Sandberg, 501 U.S. 1083, 1086-7, 111 S.Ct. 2749, 2755 (1991).
In the Second circuit, a plaintiff may satisfy the scienter requirement of 14(a) by showing negligence. Gerstle v. Gamble-Skogmo, Inc., 478 F.2d 1281, 1298-1301 (2d cir. 1973) "As a matter of law, the preparation of a proxy statement by corporate insiders containing materially false or misleading statements or omitting a material fact is sufficient to satisfy the Gerstle negligence standard." Wilson v. Great American Industries, 855 F.2d 987, 995 (2d cir. 1988).
A fact is material "if there is substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote." TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438, 449, 96 S.Ct. 2126, 2132 (1976). In assessing the materiality of an omission, a court must determine whether "disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the `total mix' of information made available." Id.
Although Plaintiff has alleged that Defendants' conduct was suspicious, it has failed to substantiate its suspicions by credible evidence that the proxy statement is materially false or misleading. Plaintiff alleges the following specific defects in the Proxy: (1) it fails to disclose that the structure of the liquidation will result in substantial tax savings for Pilevsky; (2) it omits material facts relevant to the value of properties being sold; (3) it provides an inaccurate estimate of the amount shareholders will receive in the liquidation; (4) it is misleading about the protection afforded the public shareholders by the Special Committee; (5) it fails to disclose that Prudential has a conflict of interest; and (6) the Houlihan Lokey fairness opinion is misleading. Plaintiff has failed to show that it is likely to succeed on the merits of any of its allegations or that its allegations raise sufficiently serious questions going to the merits.
A. Pilevsky's Tax Savings
Plaintiff's principal claim is that the proxy fails to disclose that the motivation of Philip Pilevsky in structuring the liquidation was to protect his financial interest in deferring recognition of taxable gain. As described above, if the unitholders sell their units for cash, they are likely to incur a substantial tax liability. Pilevsky would recognize a taxable gain of $50 to 60 million from a cash sale. As a result, the plan of liquidation is structured so that Pilevsky and the other unitholders can redeem their units for real property and partnership interests in Kimco, again deferring tax liability for the increase in value of their investments.
Plaintiff relies on Mendell v. Greenberg, 927 F.2d 667 (2d Cir. 1990), amended by 938 F.2d 1528 (2d Cir. 1991), to support its claim that Philips had a duty to disclose the differing tax consequences to Pilevsky and the shareholders. The court inMendell, however, considered the plaintiff's claim that the majority shareholder's estate tax obligation created an urgent need for cash, resulting in a "quick sale" of the company. The issue was thus the motivation for selling the company at that time. The Court held that a rational jury could conclude that the tax motivation for selling the company was material to a shareholder's decision to approve the proposed merger. Id. at 675. Plaintiff, however, has not proferred any evidence that Philips' decision to liquidate was motivated by Pilevsky's tax needs. Nor does Plaintiff contend that Pilevsky's tax situation played a role in the decision to liquidate.
Further, Plaintiff has not proferred any evidence that the price Philips will receive for the real property to be liquidated is inadequate or that the consideration to be paid by the Pilevsky Group is unfair. Absent evidence that Pilevsky's tax savings will adversely affect shareholders' interests, additional disclosure is not likely to significantly alter the `total mix' of information available to the shareholders. TSC Indus., 426 U.S. at 449, 96 S.Ct. at 2132; Mendell v. Greenberg, 938 F.2d 1528, 1529 (2d Cir. 1991) (amending its prior opinion to require some evidence of unfairness "before the district court enters the morass of alleged motivation.")
Plaintiff insists that it is not Pilevsky's motivation that it complains about, but rather that the differing tax concerns of the shareholders and Pilevsky create a conflict of interest. Regardless of how Plaintiff chooses to frame its argument, the substance of its claim is that Philips had a duty to disclose the tax issue. Plaintiff has provided no evidence that the interests of the shareholders were compromised by the tax-efficient outcome for Pilevsky and the other unitholders, and so has failed to show that the alleged non-disclosure was material.
Moreover, the proxy discloses that the Board considered the tax consequences to the unitholders, including Pilevsky, in formulating the plan of liquidation. It states that Pilevsky suggested the Pilevsky Group transaction in part because it would be "tax-efficient for the unitholders." Philips Proxy at 15. Similarly, the proxy states that the Special Committee considered the tax efficiency of the plan for the unitholders when it recommended the plan to the board. Id. at 18. The proxy also discloses that the Pilevsky Group transaction was conditioned upon Pilevsky not realizing any taxable gain in the exchange of his units for the Hialeah properties. Id. at 44.
Finally Philips' Form 10-K Annual Report for 1999. expressly incorporated by reference in the proxy, clearly discloses the potential conflict between the shareholders and unitholders in the following paragraph on page 6:
Holders of units of Philips International Realty, L.P., including Mr. Pilevsky and Ms. Levine, may have interests that conflict with our and our shareholders' interests. If we (1) sell or refinance certain properties or (2) reduce indebtedness encumbering such properties, holders of units (particularly Mr. Pilevsky and Ms. Levine who previously held interests in our properties) may suffer worse tax consequences than we or our shareholders may suffer. To avoid such consequences, Mr. Pilevsky and Ms. Levine, as executive officers and directors or our company, could (1) influence our board of directors not to sell or refinance a property even though such sale or refinance might otherwise benefit us or (2) cause us to refinance a property at a higher level of debt than would be in our best interest.
B. The Estimated Share Price
Plaintiff also alleges that the proxy inaccurately estimates the value per share that the shareholders will receive in the liquidation. The proxy estimates that the shareholders will receive an aggregate of $18.25 per share in two or more distributions — one distribution at the time of the closing of the Pilevsky and Kimco Transactions, and additional distributions following the sale of Philips' remaining K-Mart properties. Philips Proxy at 1, 6, 33. Plaintiff contends that the estimate is misleading because the shareholders are likely to receive less than $18.25.
Plaintiff's main argument is that the Proxy overestimates the price at which Philips will be able to sell its remaining K-Mart properties. The Proxy states that the K-Mart properties are being offered for an asking price of $41.5 million. Defendants have admitted that the expected sale price of the properties is less than $41.5 million. Plaintiff argues that disclosing only the asking price is misleading. It further alleges that a lower price will force the company to distribute less than $18.25 per share to the shareholders.
Defendants respond that disclosing their expectations for the properties in the Proxy would hamper their ability to get the best price. Instead, the company reserved $9 million to cover unexpected costs or shortfalls. This reserve is sufficient on its face to make up any difference between the asking price and the actual price. Plaintiff has proferred no evidence that the $9 million reserve will be insufficient. As a result Plaintiff has failed to show that the shareholders are likely to receive less than $18.25.
Plaintiff also alleges that the Proxy fails to disclose that shareholders will pay the costs of the liquidation and disproportionately bear the risk that the K-Mart properties will yield a lower price. All witnesses at the hearing testified that the liquidation is structured so that the unitholders and shareholders will bear the same pro rata share of the costs of the liquidation. Plaintiff has offered no evidence to the contrary.
Defendants also deny that the shareholders alone bear the risk that the K-Mart properties will yield a lower price than expected. They argue that the plan of liquidation includes a mechanism to equalize the value received by the Pilevsky Group and the shareholders. See Philips Proxy at 42-43.
Under the plan, Pilevsky will purchase the Lake Worth and Third Avenue properties for cash. At the closing of the Pilevsky Group transaction, the company will increase the cash price to be paid by Pilevsky if it appears that the K-Mart properties will be sold for less than the company's present expectations. As a result the Pilevsky Group and the shareholders will share the risk of a shortfall from the sale of the K-Mart properties. The shareholders will bear some residual risk because the adjustment, if any, of Pilevsky's cash payment will be based on an estimate, but this is disclosed in the Proxy. Philips Proxy at 43 ("The effect of this adjustment is that the members of the Pilevsky Group will receive our best estimate at the closing of the Pilevsky Group Transaction of what our stockholders will receive in the aggregate liquidation distributions.").
The Proxy discloses that the per share price estimate is uncertain, and the actual amount the shareholders will receive may be lower than the company's estimate. It also describes the reasons for the uncertainty. The Proxy states the following at page 33:
The aggregate amount we expect you to receive in the liquidation will be subject to the amounts required to pay or provide for our liabilities and expenses, including any contingent liabilities, and the amounts received in the liquidation of our real estate assets that we have listed for sale but are not currently subject to definitive sale agreements. Thus we cannot assure you that you will receive $18.25 per share.
Philips Proxy at 33.
C. Insufficient Disclosure About Individual Properties
Plaintiff also claims that the Proxy fails to disclose sufficient information about the specific properties being sold in the liquidation. It points to two specific omissions which, according to Plaintiff, make the Proxy materially misleading.
The first omission alleged by Plaintiff is the failure of Philips to disclose certain information about the future Profitability of the Third Avenue property. Plaintiff offered as evidence a confidential offering memorandum prepared by Prudential and distributed to potential buyers of Philips' property. The confidential memorandum predicted that the Third Avenue property would generate a future profit of $13 million for Philips' 50% non-controlling interest. Plaintiff argues that this projection is material and should have been disclosed in the Proxy.
A company has no duty to include "speculative financial predictions" in a proxy. Rodman v. Grant Foundation, 608 F.2d 64, 72 (2d Cir. 1979). However, if a Proxy discloses valuation information, it must be complete and accurate. Kahn v. Wien, 842 F. Supp. 667, 676 (E.D.N.Y. 1994). Both the proxy and the Houlihan Lokey opinion address the value of the Third Avenue property and so Philips has a duty to fully and accurately disclose information related to the valuation.
Plaintiff has not shown that the valuation statements in the Proxy were inaccurate without the $13 million projection. The Houlihan Lokey witness, Marjorie Bowen, testified that Houlihan Lokey considered the projection in rendering its fairness opinion. She also testified that the $13 million projection referred to long term profit. When discounted at an appropriate discount rate, the $13 million projection represents a present value of approximately $3 million, which is less than the price the Pilevsky Group is paying. Plaintiff has prof erred no evidence challenging the discount rate used by Houlihan Lokey or establishing a higher value for the property.
The second specific omission alleged by Plaintiff is the failure of the Proxy to list separately a small property among the Hialeah properties being sold to the Pilevksy Group. This allegation is also without merit. Louis Petra, President of Philips, testified that the disputed property was considered in the company's valuation of the Hialeah properties. He further testified that Philips has consistently treated the disputed property as part of the adjacent Palm Springs Village property. He also testified that Philips, in its public disclosures, has included the square footage and lease information for the disputed property in its description of Palm Springs Village. Plaintiff has offered no evidence to contradict this testimony. Since Philips' treatment of the disputed property in the Proxy is consistent with its treatment of the property in its previous public filings, it is unlikely to mislead a reasonable investor.
Further, the disputed property is valued at approximately $1 million and the Pilevsky Group is paying $120 million for the Hialeah properties. Since the property represents less than 1% of the value of the Hialeah package, it is not material.
Plaintiff has also alleged a general failure to disclose in the Proxy required information about the properties. Plaintiff argues that Item 15 of Regulation 14A, 17 C.F.R. § 240.14a-101, Item 15, requires disclosure of specific "property level" information.
Regulation 14A lists certain disclosure requirements for proxy statements that vary depending on the type of action for which shareholder approval is sought. 17 C.F.R. § 240.14a-101. The parties disagree as to whether Item 15 of Regulation 14A, which specifies information to be disclosed if the action involves the acquisition or disposition of property, applies to the Philips' Proxy in addition to Item 14, which applies to mergers, acquisitions, liquidations, and dissolutions. This issue need not be resolved, however, because Plaintiff has provided no authority holding that Item 15 requires greater disclosure than that provided in Philips' Proxy.
Where applicable, Item 15 requires that a proxy
(a) describe briefly the general character and location of the property; (b) state the nature and amount of consideration to be paid or received by the registrant or any subsidiary. To the extent possible, outline briefly the facts bearing upon the fairness of the consideration; (c) state the name and address of the transferer or transferee, as the case may be and the nature of any material relationship of such person to the registrant or any affiliate of the registrant; and (d) outline briefly any other material features of the contract or transaction.17 C.F.R. § 240.14a-101, Item 15 (emphasis added). Plaintiff claims that Defendants' Proxy is deficient as to (a) and (b). Plaintiff argues that these provisions require Defendants to disclose specific, "property level" information about each property being sold in the liquidation. The language of the regulation, however, requires only a brief and general description of each property, and a brief outline of the facts bearing on the fairness of the transaction. The Proxy satisfies these minimal requirements. It describes the general character of each property by identifying it as either a shopping center or a redevelopment property. It also identifies the city in which each is located.
Plaintiff has never clearly defined "property level" information in its papers. Plaintiff's counsel has alluded to specific information such as present occupancy, revenue and profitability for each property, but Plaintiff has provided no authority requiring that this information be disclosed in the Proxy.
The Proxy discusses the fairness of the transaction in some depth. It provides two fairness opinions by established investment banks. It also discloses a list of the positive and negative factors considered by the Special Committee in its review of the plan.
Plaintiff has provided no authority requiring Defendants to provide more information about each property than is disclosed in the Proxy.
D. The Role of the Special Committee
Plaintiff claims that the Proxy gives the misleading impression that the Special Committee adequately protected the interests of the shareholders. Plaintiff, however, has put forth no evidence that Philips' Special Committee did not protect the shareholders' interests. The Falstaff Brewing case relied on by Plaintiff is not on point. S.E.C. v. Falstaff Brewing Corp., 629 F.2d 62 (D.C. Cir. 1980). There the proxy referred to an audit committee that did not exist — a clear misrepresentation. Id. at 75. In this case, the Special Committee met twice, voted, and formally recommended that the Board approve the plan of liquidation. Plaintiff points to the fact that the Special Committee did not retain its own legal counsel. But there is no evidence that it sought or received advice from Pryor Cashman, counsel to Philips.
E. The Fairness Opinions
Plaintiff has also failed to support its claims regarding the Houlihan Lokey and Prudential fairness opinions.
Plaintiff does not allege any particular misstatements or omissions in the Houlihan Lokey opinion. It alleges, rather, that the opinion uses improper methodology and conveys a misleading impression about the fairness of the plan of liquidation. A proxy may be false and misleading if it includes a fairness opinion that lacks a reasonable basis or is made without a genuine belief in its accuracy. Herskowitz v. Nutri/System, Inc., 857 F.2d 179, 184 (3d Cir. 1988).
In challenging the fairness opinion, however, Plaintiff must prove facts "undercutting the statement that the [liquidation] was `fair from a financial point of view.'" Minzer v. Keegan, 218 F.3d 144, 151 (2d Cir. 2000) (dismissing plaintiff's claim for failure to allege facts suggesting that the transaction was unfair). The Second Circuit provided two examples of such facts: (i) the premium shareholders will receive over the historic share price is lower than that of comparable transactions and (ii) the price does not adequately reflect the present value of future cash flows. Id. Plaintiff has not presented such evidence. It has criticized the valuations used by Houlihan Lokey without putting forward evidence of alternate valuations.
Plaintiff's claim that the Proxy fails to disclose Prudential's prior relationship to Philips and Pilevsky is without merit. The Proxy explains that Houlihan Lokey was hired because the "board determined that a financial advisor with no previous relationship with us and the Pilevsky Group should opine on the fairness of the Pilevsky Group transaction and the overall transaction." Philips' Proxy at 16. Because of the prior relationship, Prudential was asked to opine only on the fairness of the Kimco transactions. Id. Since the Prudential opinion does not address the Pilevsky Group transaction, it is unlikely that more detailed disclosure about Prudential's relationship with Pilevsky would be material to a reasonable shareholder.
CONCLUSION
Plaintiff failed to demonstrate either that it is likely to succeed on the merits, or that there are sufficiently serious questions going to the merits to make it fair ground for litigation. For the foregoing reasons, Plaintiff's motion for a preliminary injunction was denied.
SO ORDERED.