Hurtado v. Gramercy Property Trust

          MEMORANDUM OPINION

          ELLEN L. HOLLANDER UNITED STATES DISTRICT JUDGE

         This stockholder class action suit centers on a 220-page proxy statement (the “Proxy”) issued by Gramercy Property Trust (“Gramercy” or the “Company”), a real estate investment trust, in connection with the sale of Gramercy to an affiliate of the Blackstone Group L.P. (“Blackstone”). Plaintiff Raul Hurtado, a former shareholder of Gramercy, filed suit individually and on behalf of a putative class of shareholders against Gramercy; Gramercy's financial advisor, Morgan Stanley & Co., LLC (“Morgan Stanley”); and members of Gramercy's Board of Trustees (the “Board Defendants”), ^[1] alleging that the Proxy was materially misleading, in violation of Sections 14(a) and 20(a) of the Securities Exchange Act of 1934 (the “Exchange Act” or the “Act”), 15 U.S.C. §§ 78a et seq., as well as Securities and Exchange Commission (“SEC”) Rule 14a-9. ECF 1 (the “Complaint”). According to plaintiff, the Proxy was misleading because it omitted material information with respect to an analysis summarized in the Proxy that underpinned Morgan Stanley's determination that the merger was financially fair to Gramercy's shareholders (the “Fairness Opinion”).

         In particular, the Complaint contains two claims. Count I, lodged against all defendants, alleges a violation of § 14(a) of the Exchange Act and Rule 14a-9. ECF 1, ¶¶ 111-21. Count II, lodged against the Board Defendants, asserts a violation of § 20(a) of the Act. Id. ¶¶ 122-28. Plaintiff seeks compensatory damages and attorneys' fees and costs, as well as a declaratory judgment that defendants violated the Exchange Act. Id. at 26-27.

         Gramercy and the Board Defendants filed a joint motion to dismiss for failure to state a claim, pursuant to Fed.R.Civ.P. 12(b)(6). ECF 26. It is supported by a memorandum of law. ECF 26-1 (collectively, the “Gramercy Motion”). Five exhibits are appended to the Gramercy Motion. ECF 26-2 to ECF 26-6. Morgan Stanley has also moved to dismiss the Complaint, pursuant to Rule 12(b)(6) (ECF 27), supported by a memorandum. ECF 27-1 (collectively, the “Morgan Stanley Motion”). The Morgan Stanley Motion also includes four exhibits. ECF 27-3 to ECF 27-6. Plaintiff opposes the motions (ECF 37), and defendants filed a joint reply. ECF 38.

         No hearing is necessary to resolve the motions. See Local Rule 105(6). For the reasons that follow, I shall grant the motions (ECF 26, ECF 27).

         I. Factual and Procedural Background^[2]

         A. Gramercy's Pre-Acquisition Business

         Gramercy is a global real estate investment trust (“REIT”). ECF 1, ¶¶ 2, 31. A REIT “is a company that owns, operates or finances income-producing real estate.” What's a REIT?, Nariet, https://www.reit.com/what-reit (last visited Dec. 4, 2019). Generally, REITs focus on a particular market sector. For example, “industrial REITs” hold properties such as warehouses and distribution centers. REIT Sectors, Nareit, https://www.reit.com/what-reit/reit-sectors (last visited Dec. 4, 2019). REITs that hold an assortment of properties are labeled “diversified REITs.” Id.

         In December 2015, Gramercy owned a mix of industrial and office properties in major markets throughout the United States and Europe. ECF 1, ¶ 32. At the time, its portfolio was approximately 48% office, 47% industrial, and 5% specialty retail. Id. ¶ 44. But, in early 2016, Gramercy announced its intent to grow its industrial holdings. Id. ¶ 34. Over the course of 2016, Gramercy sold over $1.5 billion in office assets and acquired $1.6 billion in industrial properties. Id. ¶ 35. Gramercy continued to focus on industrial properties throughout 2017. Id. ¶ 38.

         Gramercy's Board of Trustees (the “Board”) allegedly regarded Gramercy's repositioning as a “key transformation to the Company's core business.” Id. ¶ 45. During a meeting held on April 26, 2017, the Board “‘reviewed the Company's business plan and performance metrics comparing the Company to other REITs operating in the industrial and net lease sectors.'” Id. ¶ 47. On October 25, 2017, the Board authorized a preliminary discussion with an industrial REIT to explore the possibility of a strategic transaction. Id. ¶ 49. And, on January 24, 2018, the Board met with Morgan Stanley, which was providing Gramercy with financial advisory services, to review “‘the Company's recent financial performance and recent market developments affecting the Company, including the competitive environment for acquiring industrial real estate assets and the market valuations of the Company and peer companies.'” Id. ¶ 51. By April 2018, Gramercy's portfolio was approximately 15% office, 81% industrial, and 4% specialty retail. Id. ¶ 44.

         Due to Gramercy's swift transition, its financials “did not yet fully reflect the value of the Company's industrial portfolio.” Id. ¶ 53; see Id. ¶ 54. As a result, the S&P Index and the Morgan Stanley Capital International Index (the “MSCI”), major stock market indices, continued to classify Gramercy as a diversified REIT, as opposed to an industrial REIT. Id. ¶ 55. The market's perception of Gramercy as a diversified REIT was significant because industrial REITs were outperforming diversified REITs. Id. ¶¶ 55-57. Thus, plaintiff alleges that Gramercy “was undervalued and mispriced in the market.” Id. ¶ 52.

         B. The Blackstone Acquisition

         On March 1, 2018, the Senior Managing Director of Blackstone's real estate group, Tyler Henritze, told Gramercy's Chief Executive Officer (“CEO”), Gordon DuGan, that Blackstone was interested in acquiring Gramercy. Id. ¶ 59; see ECF 26-2 at 44 (the “Proxy”). DuGan directed Henritze to contact Morgan Stanley. ECF 26-2 at 44. On April 3, 2018, Henritze spoke with a representative of Morgan Stanley to express Blackstone's interest in purchasing Gramercy because of Gramercy's industrial portfolio. ECF 1, ¶ 60. The next day, and again on April 11, 2018, Morgan Stanley invited Henritze to make an offer before the Board met on April 26, 2018. Id. ¶ 61.

         Henritze informed Morgan Stanley on April 25, 2018, that Blackstone intended to propose a price of $26.50 per share to acquire Gramercy. ECF 26-2 at 47. However, Morgan Stanley advised Blackstone that the Board would view that price as inadequate. Id. On April 26, 2018, Blackstone submitted a bid, proposing an all-cash acquisition of Gramercy at $27.00 per share. ECF 1, ¶ 64; ECF 26-2 at 47.

         Later the same day, the Board discussed Blackstone's proposal during its regularly scheduled meeting. ECF 26-2 at 47.^[3] Additionally, it reviewed other potential strategic transactions that Morgan Stanley had explored on Gramercy's behalf with other companies. Id. Ultimately, the Board directed Morgan Stanley to inform Blackstone that it would not pursue a transaction at $27 per share. Id. at 48. Blackstone responded on April 27, 2018, by increasing its proposed price to $27.30 per share, provided that Gramercy would agree not to issue its next scheduled dividend, or $27.00 per share with no restriction on Gramercy's ability to pay regular quarterly dividends prior to the closing of the acquisition. Id.

         The Board held a telephonic meeting on April 28, 2018, to discuss the offer. Id. It decided to continue negotiating with Blackstone, with the goal of obtaining a higher price per common share and with terms that allowed Gramercy to solicit alternative acquisition proposals during the pendency of the merger. Id. at 49; see ECF 1, ¶ 65. Morgan Stanley relayed the Board's response to Blackstone. ECF 26-2 at 49; ECF 1, ¶ 66. Blackstone responded that it would not agree to Gramercy's proposed terms. ECF 26-2 at 49. However, it increased its offer to $27.50 per share. Id. Shortly thereafter, Blackstone submitted a letter confirming its proposal. Id. During a second telephonic meeting on April 28, 2019, the Board agreed to move forward with those terms and to provide Blackstone with additional due diligence information. Id.

         Gramercy “held its first quarter 2018 earnings call” on May 1, 2018. ECF 1, ¶ 69. During the call, DuGan claimed that “the Company had finally been recognized and reclassified as an industrial REIT in the S&P and MSCI indices.” Id. He stated, id.:

Today, Gramercy is roughly 85% industrial by value. We're the 8th largest owner in the United States, public or private, with a high-quality portfolio in major markets of, roughly, 77 million square feet. As part of that acknowledgment, or the acknowledgment of the shift in the business, as of April 30, as of yesterday, we changed our GIC classification at S&P from diversified to industrial. And similarly, for MSCI, our classification has changed. It's actually - it's as of April 30, but when our associate looked on the Bloomberg, we found we were still diversified yesterday, but as of this morning, we're industrial. So our MSCI classification has also changed to industrial. So that kicks in today.

         On May 6, 2018, the Board met with Morgan Stanley and its counsel, Watchell, Lipton, Rosen & Katz (“Watchell”), to review the terms of Blackstone's offer. Id. ¶ 70. During the meeting, Morgan Stanley presented its opinion that the merger was financially fair to Gramercy's common shareholders. Id.; ECF 26-2 at 50-51. And, Watchell reviewed the draft merger agreement with the Board and discussed the interests that the Board and executive officers had in the merger that differed from shareholders. ECF 26-2 at 51. Based on this information, the Board unanimously approved the merger agreement. ECF 1, ¶ 71; ECF 26-2 at 51. The parties executed the merger agreement and other transaction documents during the evening of May 6, 2018. ECF 26-2 at 51.

         Gramercy issued the Proxy to its shareholders on June 27, 2018, to solicit votes on the proposed merger. ECF 1, ¶ 80; see generally ECF 26-2. The Proxy was supplemented on July 13, 2018. ECF 1, ¶ 80. And, on August 9, 2018, a majority of shareholders approved Blackstone's acquisition of Gramercy. See Id. ¶ 101; ECF 26-6 at 2. Approximately 117.5 million out of 119 million shares, or 99% of shares, voted in favor of the deal. ECF 26-6 at 2.

         C. The Proxy Statement

         The Proxy contained numerous disclosures. Of relevance here, it contained a nine-page summary of Morgan Stanley's Fairness Opinion. See Id. 26-2 at 61-69. And, the full text of the Fairness Opinion, dated May 6, 2018, was included as an exhibit to the Proxy. Id. at 215-17.

         The Proxy disclosed that Gramercy “retained Morgan Stanley to provide [the Company] with financial advisory services in connection with the proposed merger.” Id. at 61. And, it stated that Morgan Stanley, “based upon and subject to the various assumptions made, procedures followed, matters considered and qualifications and limitations on the scope of [its] review, ” informed the Board that, in its opinion, “the merger consideration to be received by the holders of [Gramercy's] common shares pursuant to the merger was fair from a financial point of view[.]” Id. Morgan Stanley's opinion was immediately followed by a warning, in bold, id. (emphasis in original):

The full text of the written opinion of Morgan Stanley, dated as of May 6, 2018, is attached to this proxy statement as Exhibit B and is hereby incorporated into this proxy statement by reference in its entirety. You should read the opinion in its entirety for a discussion of the assumptions made, procedures followed, matters considered and qualifications and limitations on the scope of the review undertaken by Morgan Stanley in rendering its opinion. We encourage you to read the entire opinion and the summary of Morgan Stanley's opinion below carefully and in their entirety. This summary of the opinion of Morgan Stanley set forth in this proxy statement is qualified in its entirety by reference to the full text of the opinion. Morgan Stanley's opinion is directed to our board of trustees, in its capacity as such, addresses only the fairness of the merger consideration to be received by the holders of our common shares pursuant to the merger agreement from a financial point of view to such holders as of the date of the opinion and does not address any other aspects or implications of the mergers. Morgan Stanley's opinion was not intended to, and does not, constitute a recommendation to any holder of our common shares as to how to vote at the special meeting to be held in connection with the mergers or whether to take any other action with respect to the mergers. Morgan Stanley was not requested to opine as to, and its opinion did not in any manner address the relative merits of, the transactions contemplated by the merger agreement as compared to other business or financial strategies that might be available to the Company, nor did it address the underlying business decision of the Company to enter into the merger agreement or proceed with any other transaction contemplated by the merger agreement.

         Further, the Proxy disclosed that Morgan Stanley performed seven financial valuations in connection with the Fairness Opinion: (1) “Research Analyst Price Targets and NAV [‘Net Asset Value'] Targets” analysis; (2) “Comparable Public Companies Analysis”; (3) “Net Asset Value Analysis”; (4) “Discounted Cash Flow Analysis”; (5) “Premiums Paid Analysis”; (6) “Private Buyer Analysis”; and (7) “Historical Stock Price” analysis. See Id. at 63-67.

         Plaintiff takes issue only with the Comparable Public Companies Analysis (“CPC Analysis”). ECF 1, ¶¶ 87-94. A CPC Analysis is a valuation technique that estimates the market value of a company by comparing it to peer companies using publicly available financial information. See Shannon P. Pratt, The Market Approach to Valuing Businesses 88-89 (2d ed. 2005).

         The Proxy disclosed that Morgan Stanley selected five publicly-traded companies that “share similar business characteristics” with Gramercy. ECF 26-2 at 63. The comparator companies were: (1) Lexington Realty Trust; (2) Monmouth Real Estate Investment Corporation; (3) STAG Industrial, Inc.; (4) W.P. Carey Inc.; and (5) VEREIT, Inc. Id. Further, the Proxy disclosed the specific financial variables (i.e., ratios) that Morgan Stanley used to evaluate Gramercy and the comparator companies, and the ranges that it established for each ratio. Id. at 64. The ratios examined were: (1) share price to estimated funds from operations (“FFO”) for the 2018 calendar year as determined from a consensus of Wall Street research analysts (“Street consensus”); (2) share price to Street consensus estimated adjusted funds from operations (“AFFO”) for the 2018 calendar year; (3) aggregate value to the Street consensus for earnings before interest, taxes, depreciation, and amortization (“EBITDA”) for the 2018 calendar year; (4) share price to Street consensus NAV; and (5) share price to management's NAV. Id.

         In addition, the Proxy described the way in which Morgan Stanley calculated Gramercy's “implied per share equity value reference range” for each ratio, i.e., the approximate market value of a Gramercy share based on that particular financial metric. Id. Those estimates were arranged in the following chart, id.:

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         Finally, the Proxy explained that Morgan Stanley estimated that the market value of a common share of Gramercy stock was between $21.92 and $25.08. Id.

         The summary of the CPC Analysis concluded with the following warning: “No company utilized in the comparable company analysis is identical to the Company. . . . Morgan Stanley made judgments and assumptions with regard to industry performance, general business, economic, market and financial conditions and other matters, which are beyond the Company's control[.]” Id.

         The Proxy's summary of the Fairness Opinion contained additional admonishments. For example, it cautioned that “[t]he preparation of a financial opinion is a complex process and is not necessarily susceptible to a partial analysis or summary description.” Id. at 68. And, it advised that “Morgan Stanley's opinion and presentation to our board was one of many factors taken into consideration by our board of trustees, ” and therefore it “should not be viewed as determinative of the opinion of our board of trustees with respect to the merger[.]” Id.

         D. Plaintiff's Lawsuit

         Plaintiff filed suit against Gramercy, the Board Defendants, and Morgan Stanley on August 31, 2018. ECF 1. According to plaintiff, the merger “was timed to take advantage of a temporary low point in the Company's stock prices.” Id. ¶ 73. Gramercy was allegedly undervalued because “the Company's financials did not reflect the value of Gramercy's industrial assets, and because the Company had not been classified as an industrial REIT in the relevant indices.” Id. ¶74. Thus, plaintiff claims that Blackstone's offer of $27.50 per share “reflected a price of an acquisition of a diversified REIT, not an industrial REIT.” Id. ¶ 75.

         According to plaintiff, neither the Board Defemdants nor Morgan Stanley had an incentive to seek a better deal. See Id. ¶¶ 77-79. He asserts that a low sale price was “very favorable” for the Company's officers, because they “received the opportunity to roll over their equity interest in Gramercy into the post-merger company” and “[t]he lower the sale price, the cheaper the roll, and the higher the upside when the Company generated the growth expected by management.” Id. ¶ 77. As for Morgan Stanley, it allegedly earned $34 million for its services related to the merger, including the Fairness Opinion, which was contingent on the closing of the merger. Id. ¶ 79. Further, Morgan Stanley had a “significant relationship” with Blackstone, having received $100 million to $125 million in fees from Blackstone between 2016 to 2018, a far greater sum than the $10 million to $25 million that Morgan Stanley received from Gramercy during the same period. Id. ¶ 62.

         As noted, the Proxy was filed on June 27, 2018, and supplemented on July 13, 2018. Id. ¶ 80. Plaintiff alleges that the Proxy contained several materially misleading statements. Id. ¶ 95. “The Proxy contained the recommendation of each of the Individual Defendants to Gramercy stockholders to vote in favor of the Merger.” Id. ¶ 81. Further, the Proxy stated that the “‘merger was advisable and in the best interests of the Company and our shareholders.'” Id. ¶ 82 (quoting ECF 26-2 at 12). And, it suggested that the Board's determination that the merger was financially fair to shareholders “was supported by a valid valuation, ” stating that the Board considered Morgan Stanley's Fairness Opinion a “‘material factor[] . . . supporting its decision to approve the merger agreement.'” Id. ¶ 83 (alterations in ECF 1) (quoting ECF 26-2 at 51, 53).

         In plaintiff's view, these statements misled shareholders because the Proxy “did not disclose facts demonstrating that Morgan Stanley's analyses and conclusions [in the CPC Analysis] were objectively flawed.” Id. ¶ 90. Specifically, plaintiff complains that the Proxy omitted that the five companies that Morgan Stanley utilized in the CPC Analysis “were not comparable to Gramercy” because only two of the five companies were industrial REITs. Id. ¶ 91. According to plaintiff, had Morgan Stanley used industrial REITs as comparison companies, the CPC Analysis would have generated ratio ranges that implied a valuation of Gramercy's stock “in the mid-$30s to $40s.” Id. ¶ 93. And, plaintiff maintains that the failure to disclose the comparison companies' REIT classification prevented stockholders from “discern[ing] that Morgan Stanley's valuation was objectively flawed, and the Merger consideration was unfair.” Id. ¶ 98. Hurtado asserts: “By ...