New York's highest court let the decision in Matter of Dumont stand, creating a bit of a mess in New York and adding to the cacophony of recent state court decisions on large stock concentrations. Despite the noise, the decisions are adding up to some important lessons for fiduciaries:
Stock concentrations are risky, regardless of governing instrument provisions. Surcharge actions based on diversification will remain popular with plaintiff's lawyers as they're relatively easy to plead and prove, and damages are readily measured.
Real or perceived conflicts of interest will shape courts' views of trustee actions.
Process matters. Trustees are not guarantors of investment results; they are guarantors of process. Prudent process includes meaningful investment review of stock concentrations, obtaining legal or judicial interpretation of governing instruments, maintaining proper records, and staying aware of beneficiary circumstances.
Not all stock retention clauses are created equal. Careless drafting or unique trust terms create fiduciary risks.
On April 28, New York's highest state court denied the petition for appeal of the appellate division's decision in Dumont.
Charles G. Dumont died in 1956, and under his will the residue of his estate was retained in trust for his descendants, which was funded almost entirely with Eastman Kodak Company stock. The will included a retention clause restricting the sale of the Kodak stock, but with an exception clause permitting sale for a compelling reason other than diversification. Dumont's last surviving descendant died in 2002 and the trust assets passed to three charities.
In a suit by the beneficiaries, the surrogate surcharged J P Morgan-Chase (the corporate successor to the original trustee) more than $24 million for failure to sell the Kodak stock. The bank appealed and the appellate division reversed on a procedural defect, finding the surrogate erred by going beyond the beneficiary's objections to determine that a compelling reason existed to sell the stock on a date that was not pled by the beneficiaries. The beneficiaries' appeal to New York's highest court was denied.
The denial of appeal lets stand the appellate division decision and leaves some uncertainty for trusts governed by New York law.
Because the appellate division reversed on procedural grounds, it failed to address the surrogate's damage calculations. The surrogate departed from the Janes decision (a notable New York case on stock concentrations) by compounding interest on damages throughout the entire 30-year accounting period in question, and deducting the dividends paid to the beneficiary and sales proceeds from the sale of the Kodak stock at the end of the compounding. Deducting the dividends and sales proceeds when actually received (as done in Janes) would have significantly reduced the effect of the compounding.
Dumont is only one of several cases involving stock concentrations that have sprung up around the country. In National City Bank v. Noble, the Ohio Court of Appeals found in favor of the trustee because of a retention clause permitting a large concentration of Smucker stock. In Wood v. U. S. Bank, the Ohio Court of Appeals found against the trustee because the governing instrument did not abrogate the bank's duty to diversify. In McGinley v. Bank of America, the Kansas Supreme Court found in favor of the trustee where a letter from the grantor authorized the trustee to retain a large amount of Enron stock. In In re Scheidmantel, the Pennsylvania Superior Court found gross negligence by a trustee for diversifying a concentration of stock in a subsidiary without ascertaining the beneficiary's needs. Other potentially significant cases are pending.