Opinion ID: 70923
Heading Depth: 2
Heading Rank: 2

Heading: Breach of the duty of undivided loyalty

Text: The foremost duty which a fiduciary owes to its beneficiary is undivided loyalty. Clark v. Clark, 167 Ga. 1, 144 S.E. 787 (1928); Fulton Nat'l Bank v. Tate, 363 F.2d 562 (5th Cir.1966). Accord, Comptroller's Handbook for National Trust Examiners, July 1984, p. 1.2 If trustee places itself in a position where its interests might conflict with the interests of the beneficiary, the law presumes that the trustee acted disloyally; inquiry into such matters as whether the transaction was fair is foreclosed and the burden shifts to the trustee to show it received no benefit. It is not necessary for the beneficiary to show that the fiduciary acted in bad faith, gained advantage, fair or unfair, or that the beneficiary was harmed. Fulton Nat'l Bank, 363 F.2d at 571-72. The defendant bank's policy manual acknowledges that the bank owes a duty of undivided loyalty to the beneficiaries of the trusts that it manages. In Clark v. Clark the Supreme Court of Georgia discussed the duty of undivided loyalty. As long as the confidential relation lasts, the trustee owes an undivided duty to the beneficiary under the trust, and cannot place himself in a position which would subject himself to conflicting duties, or expose him to the temptation of acting contrary to the best interests of the cestui que trustent. 3 Pomeroy's Equity Jurisprudence, § 1077. Beneficiaries of a trust are entitled to have it administered by trustees entirely at the service of the trust and above suspicion. Crummey v. Murray, 130 Misc.Rep. 378, 224 N.Y.S. 2 Defendant is not a national bank. The Comptroller's Handbook is, however, a reliable authority in the banking industry. 49 [ (1927) ]. The purpose of this rule is to require a trustee to maintain a position where his every act is above suspicion, and the trust estate, and it alone, can receive, not only his best services, but his unbiased and uninfluenced judgment. Whenever he acts otherwise, or when he has placed himself in a position that his personal interest has or may come in conflict with his duties as trustee, or the interests of the beneficiaries whom he represents, a court of equity never hesitates to remove him. In such circumstances the court does not stop to inquire whether the transactions complained of were fair or unfair; the inquiry stops when such relation is disclosed. Clark, 144 S.E. at 789. The defendant bank was in a position of obvious and pervasive conflicts of interest. It is a wholly owned subsidiary of FSC. As trustee it owns nearly 40% of FSC stock. The district court recognized that a conflict of interest arose from the bank's holding in trust stock of its parent. The bank's trust department manual recognizes this conflict. A trustee's ownership of its own stock, unless consented to or waived, is inconsistent with the rule of undivided loyalty. The rule of undivided loyalty in this situation is based upon the possibility that circumstances may arise in which the trustee and its officers and directors are in a position when determining whether to sell or retain the stock they cannot appraise the problem with the same detachment with which they approach the sale of other securities. IIA Austin W. Scott & William F. Fratcher, The Law of Trusts § 170.15, p. 369; Comptroller's Handbook, p. 3. As the district court noted, the rule is no different when the stock owned is that of an affiliated corporation. The trustee may be tempted to favor itself or the affiliate. See Albright v. Jefferson County Nat'l Bank, 292 N.Y. 31, 53 N.E.2d 753, 151 A.L.R. 897 (N.Y.1944). The question is not whether the trustee and the affiliated corporation are separate legal entities but whether the trustee has placed itself in a position where its interests, or the interests of its affiliate, may conflict with its duties to its beneficiaries. The wholly owned subsidiary-parent relation with common management is the paradigm of affiliation. Connection between the bank and FSC reached far beyond ownership of stock. Management of the two corporations is overlapping and interlocking. The summary judgment evidence discloses that the bank and the holding company are tightly bound together by a web of overlapping duties, responsibilities, and relationships, by cross-assignment of principal officers and directors of the bank and of FSC, and of members of the trust committee of the bank, and by compensation of principal officers. At times relevant to this case Morgan Murphy was chairman of the board, president, and chief executive officer of FSC and chairman of the board and chief executive officer of the bank. Douglas Wren was president and chief operating officer of the bank and executive vice president and chief operating officer of FSC. Both served on FSC's executive committee which also served as the compensation committee.3 Both served on the bank's trust committee. The head of the bank's trust department served on the trust committee and was a director of the bank and of FSC. The other members of the trust committee were FSC directors. Two members of the trust committee served on FSC's executive committee. Bank officers, including Murphy and Wren, were compensated directly by FSC, not by 3 Murphy was a voting member of the compensation committee but changed to nonvoting status pursuant to a recommendation made in connection with an offering of stock discussed below. the bank, and the bank in turn paid FSC a management fee. Thus, the bank's conflicts of interest that exist because of these relationships run far more broadly and more pervasively—and affect the issues in this case to a much greater extent—than corporate trustee A owning stock in corporation B. III. The claim arising from the First Alabama approach The First Alabama approach was not to the bank but to FSC. It originated with members of plaintiff's family who are shareholders of FSC. Wishing to see FSC merged with some other banking entity, they approached First Alabama with the suggestion for discussion. FSC was committed to a non-merger policy. It considered this to be in the best interests of stockholders, employees, and the area of South Georgia in which it operated. On behalf of FSC, and as a courtesy to the family members who had approached First Alabama, Murphy and Wren met one time with representatives of First Alabama. They told First Alabama that FSC was not interested. First Alabama followed up with a letter to Murphy, as chief executive officer of FSC, expressing continuing interest and describing possible benefits of a merger, and stating the hope of additional meetings. Murphy reported the First Alabama approach to a meeting of the FSC board. A director expressed dissatisfaction that the First Alabama approach had originated with a stockholder rather than the board. Murphy considered that he had been reprimanded for talking with First Alabama and told the board he would stay the course with the mandate that FSC remain independent. Later an attorney for FSC talked with an officer of First Alabama who told him that First Alabama made no offer, would not make one unless solicited, and would not be interested without active support from FSC management. But, if FSC ever wanted to sell, First Alabama would be interested. There the First Alabama matter ended. The First Alabama matter was not presented to the bank for its consideration as trustee, although its principal officers and directors knew of it since they were officers and board members of FSC. There is evidence that Murphy did not fully inform the trust committee of the level of First Alabama's interest. At least some committee members never saw the First Alabama follow-up letter. The matter was never presented to the trust committee for its consideration, though that committee is said to make all significant decisions concerning trusts and the interests of beneficiaries of trusts. Indeed, the common management of FSC and the trustee bank, in testimony and in the bank's contentions on this appeal, do not understand, or do not recognize their duties with respect to trust beneficiaries. Rather they assert that there is such identity of interests that action taken on behalf of FSC meets trust law requirements of the bank's duty of loyalty to beneficiaries. Murphy testified—and the bank argues on appeal—that once officers and directors act, wearing their FSC hats, the matter is ended. All responsibility to the bank as trustee and to trust beneficiaries is discharged, so that trust beneficiaries have suffered no harm. The bank asserts that the interests of a trust beneficiary whose trust holds FSC stock are identical to the interests of a non-trust shareholder of FSC. It says that officers and directors of FSC acted to benefit all shareholders when they turned aside the First Alabama proposal. As the bank puts it, since all FSC shareholders had the same interests, beneficiaries of trusts owning FSC stock have nothing of which to complain. Plaintiff's expert witness Ken C. Coker, an experienced former trust officer, described this viewpoint of the bank as grossly improper. The bank makes a second contention based upon identity of personnel, i.e., it was unnecessary for the trust committee of the bank to consider the First Alabama proposal because FSC and the bank have common directors, and trust committee members are FSC directors, so it would have been fruitless for them as committee members to reconsider what they had already rejected as directors of FSC. The necessity for independent consideration, as an implementation of undivided loyalty, is brushed off by the defendant as smoke and mirrors. Also, there is evidence that some of the officers and directors of the bank are unfamiliar with the obligations placed upon them by trust law in general and conflicts of interest in particular, and by the bank's own policies concerning trusts as reflected in its manual. Some were unaware of a trustee's duty of undivided loyalty. Murphy had never seen the trust department's manual of policies and procedures and did not know of any written procedures addressing conflicts between the interests of trusts and the interests of FSC. It appears that, in the bank's transactions with FSC, the trust committee never independently examined the interests of beneficiaries of trusts holding FSC stock. Expert witness Coker testified that a merger could jeopardize the positions and salaries of Murphy and Wren. In Clark v. Clark trustees voted stock held by them in trust to elect them as corporate officers and to pay themselves handsome salaries. The stock depreciated in value and the beneficiaries sued to charge them with the loss. The Georgia Supreme Court held: They are not in a position to impartially consider and decide this question [whether to sell the stock and reinvest]. Their duties as trustees and their individual interests conflict. If this stock were sold, the defendants would or might lose their offices in this corporation and the emoluments thereof, which are considerable and substantial. The retention of this stock by the defendants is their only means by which the defendant Clark can be secure of his position of president of the Sutherland Manufacturing Company, and its prerequisites. These defendants may be possessed of sufficient ability to postpone interest to duty, but by the imperative interdict of the law they are forbidden to incur the hazard of the temptation. Elias v. Schweyer, 17 Misc.Rep. 707, 40 N.Y.S. 906, 908 [ (1896) ]. The defendants, by electing themselves to these offices in this company, and by accepting salaries as such, have placed themselves in a position whereby their personal interests may come directly in conflict with, and, to a certain extent, antagonistic to their duties as trustees. It is not necessary to determine that they have acted in bad faith, or that they have received from the corporation sums in excess of what their services were reasonably worth. Clark, 144 S.E. at 790. With particular respect to the First Alabama approach, Coker testified that the bank's trust committee should have obtained legal independent counsel and advice on behalf of the interests of beneficiaries of trusts holding FSC stock. FSC knew there was shareholder interest favoring a merger. Murphy testified that he would not consider permitting the trust committee to obtain independent advice with respect to a transaction that might involve a conflict between the bank as trustee and FSC. And, in this appeal, the bank scoffs at obtaining outside counsel to consider the interests of beneficiaries as a waste of shareholders' money. We have considered whether as a matter of law the trustee breached its duty of loyalty by failing to encourage, prompt, and if necessary join with other stockholders of FSC to require FSC to engage in discussion with First Alabama. Plaintiff does not contend in this suit that there must be a merger with First Alabama. What he does assert is that the bank breached its fiduciary duty by not encouraging, prompting or joining with others to require FSC, which maintained a no-merger policy, to negotiate with First Alabama. It cannot be said that the matter of whether the parent should consider a proposed merger was not a matter of interest to beneficiaries of the bank as trustee. Murphy conceded in his testimony that the bank as trustee should make a determination of whether a proposed merger would be in the best interests of a trust beneficiary, and if the bank thought it was not in the beneficiary's best interest it should voice opposition to it and vote against it. The district court recognized that a trustee authorized to retain stock may be required to dispose of it in consequence of a merger. Trustees who are directed or authorized by the terms of their trusts to retain existing investments in corporate stock may be under a duty to dispose of these investments if, as a consequence of mergers or acquisitions, the essences of the underlying enterprises are transformed. 76 Am.Jr.2d, Trusts § 510. When evaluating whether the shares of a new enterprise are equivalent to the original investment one should compare, inter alia, the old and new corporations' spheres of activity and capital structures. Hirsh v. Hirsh, 209 Va. 630, 634, 166 S.E.2d 286, 288-89 (1969). Ledbetter v. First State Bank & Trust Co., No. CA-93-124-1- ALB/AMER(DF), at 4 (M.D.Ga. March 14, 1995). In the present case there is no proposed merger, only proposed negotiations and a rebuff by a parent maintaining a no-merger policy. We cannot say as a matter of law that the bank did or did not violate its fiduciary duty. Whether it acted properly in maintaining a no-merger policy and rebuffing First Alabama as an implementation of that policy, and whether the bank should have acted to consider the interests of trust beneficiaries, are matters for a factfinder. Among the considerations implicated are conditions in the industry and in the community that might make no-merger the best policy for the bank, or an acceptable policy, or catastrophic; asserted reasons for the policy and for the decision not to negotiate; the definite versus inchoate nature of the First Alabama approach; the possible motivation of officers and directors who might wish to maintain their salaries and positions. As with other issues, discussed below, the burden was upon the trustee having adverse interests to prove that it did not act in bad faith, or for improper motives, and that it did not obtain benefits. We turn to presumptions and burden of proof. The district court considered that paragraph 10 of the trust agreement required only that the defendant not act unreasonably and that the burden of proving unreasonableness was upon plaintiff. Paragraph 10 provides: (10) Without in any way limiting the authority vested in TRUSTEE with respect to the handling and management of trust property, it is, nevertheless, TRUSTOR'S preference and it is hereby expressed to be his personal preference that the TRUSTEE retain any corporate stock, partnership interest or other interest which forms a part of the trust property in which other descendants of TRUSTOR'S grandfather, W.B. Haley, or any one or more of them, own a controlling or a substantial amount of stock or interest. If notwithstanding the foregoing, TRUSTEE determines that it should sell any part or all of such stock or interest, then it is very likely that the best market for such stock or interest may be any one or more of the other descendants of W.B. Haley or affiliates thereof. Revocable Trust of Frederick D. Ledbetter at 4-5. Paragraph (9) provides that the trustee may not sell any asset having a fair market value exceeding $5,000 without prior written approval of the trustor. The bank contends that paragraph 10 is a plenary waiver of the trustee's duty of undivided loyalty. That position cannot be sustained. When plaintiff and the bank were negotiating a trust agreement the bank's draft included these plenary provisions: Trustor has the utmost confidence in the First State Bank and Trust Company and its affiliates, and he expressly relieves Trustee from any and all restrictions or claims of self-dealing or undivided loyalty that may arise hereunder.