Filed: Oct. 26, 2007
Latest Update: Feb. 21, 2020
Summary: IN THE UNITED STATES COURT OF APPEALS FOR THE FIFTH CIRCUIT United States Court of Appeals Fifth Circuit FILED October 26, 2007 No. 07-20315 Charles R. Fulbruge III Clerk WHITESTONE REIT, formerly known as HARTMAN COMMERCIAL PROPERTIES REIT, Plaintiff - Appellee v. ALLEN R. HARTMAN; HARTMAN MANAGEMENT LP, Defendants - Appellants Appeal from the United States District Court for the Southern District of Texas USDC 4:06-cv-03897 Before HIGGINBOTHAM, WIENER, and GARZA, Circuit Judges. WIENER, Circui
Summary: IN THE UNITED STATES COURT OF APPEALS FOR THE FIFTH CIRCUIT United States Court of Appeals Fifth Circuit FILED October 26, 2007 No. 07-20315 Charles R. Fulbruge III Clerk WHITESTONE REIT, formerly known as HARTMAN COMMERCIAL PROPERTIES REIT, Plaintiff - Appellee v. ALLEN R. HARTMAN; HARTMAN MANAGEMENT LP, Defendants - Appellants Appeal from the United States District Court for the Southern District of Texas USDC 4:06-cv-03897 Before HIGGINBOTHAM, WIENER, and GARZA, Circuit Judges. WIENER, Circuit..
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IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT United States Court of Appeals
Fifth Circuit
FILED
October 26, 2007
No. 07-20315
Charles R. Fulbruge III
Clerk
WHITESTONE REIT, formerly known
as HARTMAN COMMERCIAL
PROPERTIES REIT,
Plaintiff - Appellee
v.
ALLEN R. HARTMAN; HARTMAN
MANAGEMENT LP,
Defendants - Appellants
Appeal from the United States District Court
for the Southern District of Texas
USDC 4:06-cv-03897
Before HIGGINBOTHAM, WIENER, and GARZA, Circuit Judges.
WIENER, Circuit Judge:*
The Board of Trustees (the “Board”) of a Maryland-established, Texas-
based Real Estate Investment Trust (the “REIT”) defensively revised the REIT’s
bylaws and opted in to the Maryland Unsolicited Takeover Act (the “MUTA”) —
collectively, the “defensive actions” — in anticipation of a takeover attempt by
Defendant-Appellant Allen R. Hartman, the REIT’s founder, former Chairman,
*
Pursuant to 5TH CIR. R. 47.5, the court has determined that this opinion should not
be published and is not precedent except under the limited circumstances set forth in 5TH CIR.
R. 47.5.4.
No. 07-20315
and former CEO. Disregarding these steps taken by the Board, Hartman filed
with the Securities & Exchange Commission (“SEC”) a consent solicitation
statement (“CSS”), seeking to remove those Trustees who had instigated his
ouster and to install a new slate of trustees for the REIT.1 The Board responded
by seeking to enjoin Hartman’s consent solicitation in federal district court.
Hartman counterclaimed with a request to enjoin the implementation of the
Board’s defensive actions. Concluding that the Board’s defensive actions were
taken properly, the district court granted the REIT an injunction against the
CSS and denied Hartman’s injunction against implementing the defensive
actions. Hartman now appeals the district court’s order granting a preliminary
injunction to the REIT.
Satisfied that the Board properly amended the bylaws and properly opted
in to provisions of the MUTA, we affirm. In so doing, however, we emphasize
that our holding is confined to the unique facts of this case, in which we are
bound by — and thus must interpret and apply — Maryland’s corporation and
REIT laws to a situation in which takeover efforts of the company’s founder and
former CEO are being opposed by Trustees originally nominated by him but
most recently nominated by the Board.
I. FACTS & PROCEEDINGS
Plaintiff-Appellant Whitestone REIT was formed originally as Hartman
Commercial Properties REIT. On October 2, 2006, the Board removed Hartman
as Chairman and CEO, citing a series of misdeeds, conflicts of interest, and
disclosure failures. When Hartman refused to relinquish control of the REIT,
the Board filed a claim of breach of fiduciary duty and contractual obligations
against Hartman in Texas state court. That court granted multiple injunctions
1
As used in this opinion, “trustee” and “director” are synonymous and interchangeable.
2
No. 07-20315
against Hartman, effectively forcing him to surrender control of the REIT.
Hartman resigned from the Board on October 27, 2006.
One month later, Hartman attempted to solicit the consent of a majority
of the REIT’s shareholders to remove the Trustees and replace them with his
own slate. In response to this challenge, the Board (1) amended the REIT’s
bylaws, repealing a provision that permitted shareholders to remove trustees by
majority written consent as an alternative to doing so in a duly called meeting
of shareholders; and (2) opted in to three provisions of the MUTA: (1) instituting
a classified or staggered board, (2) instituting a two-thirds voting requirement
for removal of a trustee, and (3) increasing from ten percent to a majority of all
votes entitled to be cast as the number of shareholder votes required to call a
special shareholders meeting (at which action could be taken for, inter alia, the
removal of a trustee). In essence, these moves changed the REIT’s rules for
replacing trustees, effectively foreclosing Hartman’s consent solicitation.
Hartman nevertheless persisted with his attempt to ensconce his own board,
even after the SEC rejected his initial CSS.
Subsequent to Hartman’s filing of his CSS with the SEC, the REIT filed
suit in federal district court, to enjoin Hartman from circulating his CSS.
Hartman filed a counterclaim against the REIT, seeking to have the Board’s
defensive actions invalidated. The trial court granted the REIT’s application for
preliminary injunctive relief, preventing Hartman from distributing his CSS.
The court also denied Hartman’s request for injunctive relief, ruling that the
Board properly (1) repealed the bylaws provision that permitted shareholders to
remove trustees by majority written consent, and (2) opted in to the MUTA
provisions described above. The district court stated that the Board’s opt-in was
protected by the business judgment rule, not to mention its being unreviewable
under the MUTA itself. This appeal followed.
II. ANALYSIS
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No. 07-20315
A. Standard of Review
We review de novo the legal questions presented on appeal relating to the
validity of the Board’s defensive actions, viz., repeal of the majority written
consent bylaw provision and opting in to the provisions of the MUTA.2 We
review the district court's grant of a preliminary injunction for abuse of
discretion.3 A court may grant a preliminary injunction when the movant shows:
(1) a substantial likelihood of success on the merits; (2) a substantial threat that
it will suffer irreparable injury absent the injunction; (3) the threatened injury
outweighs the harm that the injunction might cause defendant; and (4) the
injunction is not contrary to public policy.4
B. Repeal of Bylaw Amendments
The Board did not breach a duty to the REIT’s shareholders when it
repealed Article II, Section 13 of the REIT’s bylaws, a provision that permitted
shareholders to remove trustees by majority written consent. Even though the
REIT’s bylaw that gave the Board exclusive dominion over any and all
alterations or amendments to the bylaws is not conclusive per se, the fact that
the REIT was attempting to shield the shareholders from further harm at the
hands of an allegedly miscreant CEO does lead us to conclude that the Board
acted properly when it revised the REIT’s bylaws to eliminate the majority
written consent provision. Irrespective of whether Hartman or the REIT is
correct about the Board’s real motives for repealing the majority written consent
provision in the bylaws or about the standard the court should apply when
evaluating the propriety of the Board’s act, the Board did not breach any
2
United States v. Lynch, 114 F.3d 61, 63 (5th Cir. 1997).
3
Women's Medical Center of Northwest Houston v. Bell, 248 F.3d 411, 418-19 (5th Cir.
2001).
4
See, e.g., Lake Charles Diesel, Inc. v. General Motors Corp, 328 F.3d 192, 195-96 (5th
Cir. 2003).
4
No. 07-20315
fundamental duty to the shareholders when, as a means of protecting the
shareholders from Hartman, it eliminated the bylaw that permitted shareholder
action by majority written consent.
The exclusive power to amend the REIT’s bylaws is expressly delegated to
the Board. Article XIII of the REIT’s bylaws specifies that “[t]he Board of
Trustees shall have exclusive power to adopt, alter, or repeal any provision of
these Bylaws and to make new Bylaws.” As the REIT contends, in following this
express authorization, the Board was exercising its lawful power to amend the
bylaws. And, under the REIT’s properly amended bylaws, Hartman’s amended
consent solicitation to remove the directors was a nullity.
Our analysis cannot end here, however. Our review would be incomplete
if we were to approve plenary power for a board to amend a REIT’s bylaws
without any oversight based solely on the fact that these very bylaws contain a
catch-all clause like this REIT’s Article XIII. No bylaw may excuse a board’s
breach of a fundamental shareholder right or totally obviate a board’s duties to
its shareholders. Indeed, because most boards of directors or trustees have at
least some power to create or amend their own bylaws, including provisions like
Article XIII that give boards exclusive power over bylaws, no bylaw is entirely
sacrosanct. Article XIII cannot be interpreted to give the Board unlimited power
over all bylaws under all circumstances, as the REIT would have it. Even a
charter provision or bylaw that purports to vest a board with exclusive and
unrestricted power to amend and alter the bylaws cannot create an
unconditional, impenetrable shield for the directors or trustees.
Although we disagree with the REIT’s contention that Article XIII alone
immunizes the Board’s decision to repeal the majority written consent provision
of Article II, Section 13, we are satisfied that the Board’s repeal of this bylaw
was proper. The REIT explains that it repealed Article II, Section 13 solely to
eliminate an inconsistency between the bylaws and the REIT’s Declaration of
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No. 07-20315
Trust in the wake of a tender offer for the REIT from a competitor, and that its
decision to do so is protected by the lenient business judgment rule. Hartman
counters that the REIT’s explanation is a pretextual disguise of the truth that
the Trustees repealed the majority written consent provision to defend
themselves from his efforts to replace them. Hartman asserts that the Board’s
actions should be judged not by the business judgment rule but a higher
fiduciary standard, and that the Board breached a fiduciary duty to the
shareholders when it amended the REIT’s bylaws to prevent the shareholders
from acting by majority written consent as an alternative to voting at a duly
called meeting.
Regardless of the Board’s motive for eliminating the REIT’s majority
written consent provision, and regardless of whether that act is tested under the
business judgment rule or a stricter fiduciary duty standard, the Board clearly
acted in the best interest of the shareholders when it erected defensive barriers
to protect the REIT from Hartman. Thus, the Board could not have breached
any duty to the shareholders, no matter how reviewed. The Board’s defensive
actions under these circumstances would satisfy any standard by which boards
are judged. Hartman had allegedly done harm to the REIT during his tenure at
its helm. The Board did not disenfranchise the shareholders; rather, in a
legitimate effort to save the REIT from a ruinous sequel, the Board simply
eliminated one alternative method for shareholders to exercise their voting
rights. As repeal of the majority written consent provision was so obviously a
good faith attempt to protect the interests of the REIT and its shareholders, the
Board could not have violated any duty owed to the shareholders, regardless of
whether the Board’s act is tested under the business judgment rule or a stricter
fiduciary standard.
Hartman’s self-serving attempt to don a pro-shareholder white hat is
unconvincing. The Board’s repeal of the bylaws’ majority written consent
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No. 07-20315
provision was a legitimate exercise of the Board’s duty to protect the REIT and
its shareholders. Regardless of how the exact duty owed by the Board to the
REIT’s shareholders is defined, or what the actual motive for the Board’s repeal
of the majority written consent provision was, the Board breached no duty when
it amended the bylaws to protect the REIT from Hartman, with the obvious
purpose of advancing, not harming, the shareholders’ interests.
C. The MUTA Opt-In
Hartman advances two reasons why the REIT’s opt-in to the MUTA was
improper: (1) It did not meet the MUTA’s opt-in requirement of three
independent trustees; and (2) the REIT’s Declaration of Trust prohibits the
Board from opting in to the MUTA. We disagree with both assertions.
1. Independent Trustees
Before addressing Hartman’s two principal arguments regarding trustee
independence, we note preliminarily that, as with the Board’s decision to repeal
the majority written consent bylaw provision, it is of no consequence in this case
whether the business judgment rule or a stricter fiduciary standard applies to
the Board’s opt-in to the MUTA. The REIT contends, and the district court
agreed, that the business judgment rule applies to the Board’s decision to opt in
to the MUTA provisions. In contrast, Hartman insists that a stricter fiduciary
standard should apply. It matters not whether a stricter fiduciary standard or
the more lenient business judgment rule is applicable, because Maryland law
expressly dictates that a board member has no duty to shareholders to refrain
from opting in to the MUTA. Specifically, subsection (d) of section 2-405.1,
which is expressly incorporated into Maryland’s REIT statute, states: “The duty
of the directors of a corporation does not require them to: . . . refrain from
electing on behalf of the corporation to be subject to any or all of the provisions
7
No. 07-20315
of Title 3, Subtitle 8 of this article [the MUTA].”5 Consequently, if opting in to
the MUTA was itself proper, then the Board could not have breached any duty
to the REIT’s shareholders by opting in.
We also note preliminarily that, contrary to the district court’s belief,
Maryland law does not prohibit judicial review of a board’s action to opt in to the
MUTA. True, courts are prohibited from reviewing a board’s substantive
decision to opt in to the MUTA; but courts may review whether the procedural
prerequisites for opting in are satisfied.6 Here then, the “method by which” the
Board opted in to the MUTA — the very question posed in the instant case — is
subject to judicial review.7 We now address whether the method employed by
the Board was proper.
First, the Board did meet the MUTA’s opt-in requirement for three
independent trustees. The MUTA mandates that, to opt in to the provisions of
the statute, an entity must have at least three independent directors “who, at
the time of any election are not officers or employees of the corporation; are not
acquiring persons; are not directors, officers, affiliates, or associates of an
acquiring person; and were not nominated or designated as directors by an
acquiring person.”8 We recognize that this statutory language could be twisted
abusively by boards of directors or trustees to immunize themselves from
shareholder influence and thereby improperly subvert shareholder interests. In
the context of the instant case, though, we read the language of the MUTA to
5
MD. CODE CORPS. & ASS’NS § 2-405.1(d).
6
Goldstein v. Lincoln National Convertible Securities Fund, Inc., 140 F. Supp. 2d 424,
438 (E.D. Pa. 2001), vacated in part on other grounds,
2003 WL 1846095 (3rd. Cir. 2003).
7
Id.
8
MD. CODE CORPS. & ASS’NS § 3-802(b).
8
No. 07-20315
require that at least three of the REIT’s Trustees be independent of Hartman at
the time that the REIT opted in to the MUTA.
Hartman makes two challenges to trustee independence. He first asserts
that two of the four Trustees do not qualify as independent directors under the
MUTA because, as a result of their status as limited partners in one of his
unrelated non-REIT partnerships, they were his “associates” and thus not
independent, as defined by the statute. Hartman is mistaken. The MUTA
precisely defines “associate” of an acquiring person, and the two Trustees of the
REIT singled out by Hartman do not meet this definition.9 The fact that these
two Trustees of the REIT were limited partners in an entity unrelated to the
REIT itself does not compromise their independence.
Meriting closer scrutiny, however, is Hartman’s second contention
concerning the independence of the REIT’s Trustees, viz., that, because he is
attempting to acquire the REIT, and he originally nominated three of the four
current Trustees to the Board, these three individuals do not qualify as
independent directors. Under the MUTA, board members who “were nominated
or designated as directors by an acquiring person”10 are not independent for opt-
in purposes. Hartman contends that, as he originally nominated three of the
REIT’s four Trustees, his current status as an acquiring person forever bars
these three individuals from being independent vis-à-vis him, i.e., “once
nominated, forever nominated.” But Hartman fails to recognize that the statute
9
Under the MUTA, "associate" means: “(1) Any corporation or organization (other than
the corporation or a subsidiary of the corporation) of which such person is an officer, director,
or partner or is, directly or indirectly, the beneficial owner of 10 percent or more of any class
of equity securities; (2) any trust or other estate in which such person has a substantial
beneficial interest or as to which such person serves as trustee or in a similar fiduciary
capacity; and (3) any relative or spouse of such person, or any relative of such spouse, who has
the same principal residence as such person or who is a director or officer of the corporation or
any of its affiliates.” Id. § 3-801(e).
10
Id. § 3-802(b) (emphasis added).
9
No. 07-20315
considers a director’s status only “at the time of any election.”11 The three
Trustees were independent for purposes of the votes here at issue because,
before this election, they had been re-nominated by the Board, not by Hartman.
Their terms of office during which the vote was taken to amend the bylaws and
opt in to the MUTA were terms for which they had been nominated by the Board
itself. Under the instant circumstances, the only nomination that matters is the
most recent one. Any taint connected to an acquirer’s prior nomination of a
trustee evanesces with a subsequent nomination for re-election of the trustee by
a non-acquirer (e.g., the Board or a third party). The MUTA subparagraph at
issue reads “were not nominated or designated,” not “were never nominated or
designated.” The Maryland legislature could have used the latter phraseology
or something similar if it had intended to make the taint of nomination by one
party permanent. We thus follow the language enacted by, and what we judge
to be the intent of, the Maryland legislature, and hold that the three Trustees
in question were independent when the Board opted in to the MUTA.
It is obvious to us that, in this case, the Board was justly trying to protect
the REIT and its shareholders from a former CEO who had allegedly done
damage to the REIT. In more predictable fact patterns, our reading of the
MUTA language at issue could conceivably open the door for a potentially
acquiring person to stack a board with his own nominees, and then claim that
those same nominees later became independent because they were most recently
re-nominated by the very same stacked board. We are not unmindful, therefore,
that our interpretation of the MUTA could allow managers to perpetuate
incestuous, self-serving boards, thereby emasculating the intended protection of
shareholders. Today, however, we are bound by the plain language of the
statute: We leave to the legislature or courts of Maryland the task of revising
11
Id. § 3-802(b)(1).
10
No. 07-20315
and clarifying this provision of the MUTA if either finds that our statutory
interpretation and application has missed the mark.
2. Prohibition in REIT’s Declaration of Trust
Hartman nevertheless contends in the alternative that the Board is
prohibited by the REIT’s Declaration of Trust from opting in to the MUTA. This
argument is without merit. The MUTA expressly authorizes a board,
“notwithstanding any contrary provision in their charter or bylaws,” to opt for
staggered boards,12 two-thirds voting requirement for the removal of trustees,13
and special meetings exclusively called by a majority of shareholders entitled to
cast votes.14 Even though the MUTA does state that “[t]he charter of a
corporation may contain a provision or the board of directors may adopt a
resolution that prohibits the corporation from electing to be subject to any or all
provisions of this subtitle” — and the REIT’s Declaration of Trust does expressly
prohibit any amendment to the bylaws that adversely affects the rights of
shareholders — the REIT’s general statement is not the sort of “provision” or
“resolution” that is contemplated by this provision of the MUTA. The statute
requires more than a mere general statement that might be interpreted to create
some sort of conflict with the MUTA. It requires a specific resolution that, in
effect, declares “no MUTA!” The REIT’s general proscription of any amendments
that adversely affect the rights of shareholders is not the type of specific opt-out
statement that is contemplated by the MUTA.15 This broadly stated truism is
12
Id. § 3-803(a)(1).
13
Id. § 3-804(a).
14
Id. § 3-805.
15
C.f. Sarofim v. Trust Company of the West, 440 F.3d 213, 220 & n. 10 (5th Cir. 2006)
("contractual language required to opt out of the FAA must be ‘clear and unambiguous'")
(citations omitted); Sweeney v. Savings First Mortgage., LLC, 879 A.2d 1037, 1042 (Md. 2005)
("Had it been the intent of the General Assembly to take advantage of the opt out, we believe
11
No. 07-20315
therefore ineffectual to bar the REIT from opting in to the MUTA. The Board
properly invoked a staggered board, a two-thirds voting requirement for the
removal of trustees, and the MUTA provision requiring action by a majority of
shareholders entitled to vote to call a meeting of shareholders. In the absence
of a more specific provision or resolution, the MUTA expressly trumps such
provisions. Besides, in this instance, we perceive nothing in the MUTA
provisions adopted by the Board that adversely affects the rights of the REIT’s
shareholders — and, the general condition in the Declaration of Trust is
conditioned on creating an adverse effect.
III. CONCLUSION
Although we cannot agree with every aspect of the district court’s
reasoning, we do agree that the Board acted properly when it (1) repealed the
REIT’s bylaw provision that permitted shareholders to remove trustees by
majority written consent and (2) opted in to the MUTA. Our holding is confined
to the peculiar facts of this case and should not be seen as precedent for
managers to create incestuous boards and inoculate themselves from
shareholder influence. The MUTA should not be interpreted as a facilitating leg
in the “race to the bottom” for unqualified management protection and
entrenchment. If a different former CEO had been seeking to take over the
board of this REIT, or if the Board had not acted in the best interest of the
shareholders in protecting the REIT from an alleged malefactor, we might well
have been inclined to examine the questions before us in a different light.
Moreover, if our interpretation of the MUTA does violence to the intent of
Maryland’s elected representatives, we are comfortable in the knowledge that
the State’s legislature or its courts will set the matter straight. But, based on
the unique facts and statutory language before us, we cannot say that the
it would have acted to do so in explicit terms.").
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No. 07-20315
district court abused its discretion in granting a preliminary injunction to the
REIT. The judgment of the district court is, therefore,
AFFIRMED.
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No. 07-20315
EMILIO M. GARZA, Circuit Judge, specially concurring:
I join in the excellent opinion of the Court, with the exception of the dicta
in Section II.B. Article XIII of the bylaws of REIT (“Bylaws”) specifically
empowers the Board to “adopt, alter, or repeal any provision of these Bylaws. . .
.” Acting pursuant to this express delegation of authority in Article XIII, the
Board acted in good faith and in the best interests of the shareholders by
repealing Article II, Section 13 of the Bylaws to eliminate inconsistencies
between the Bylaws and the declaration of trust, and to protect REIT from
Hartman who had been removed from REIT after his misdeeds damaged the
trust. Because the Board’s action in this case was authorized by the Bylaws and
taken in good faith to advance the best interests of the shareholders, I would
leave to another day the question: under what circumstances a Board, acting
pursuant to the bylaws of its firm, may breach shareholder rights or obviate its
duties to the shareholders.
14
