September 10, 1998
MARGERY S. BRONSTER 4750
Attorney General of Hawaii
KEVIN T. WAKAYAMA 1865
Deputy Attorney General
Department of the Attorney
General, State of Hawaii
830 Punchbowl Street, Room 219
Honolulu, Hawaii 96813
Attorneys for the Beneficiaries
IN THE CIRCUIT COURT OF THE FIRST CIRCUIT
STATE OF HAWAII
In the Matter of the Estate
|EQUITY NO. 2048
ATTORNEY GENERAL'S RESPONSE TO MASTER'S CONSOLIDATED REPORT ON THE 109TH, 110TH, AND 111TH ANNUAL ACCOUNTS; CERTIFICATE OF SERVICE
DATE: October 2, 1998
TIME: 9:00 a.m.
JUDGE: Presiding Judge
III. MASTER'S RECOMMENDATIONS
MARGERY S. BRONSTER, Attorney General, State of Hawaii, and KEVIN T. WAKAYAMA, Deputy Attorney General, attorneys for the beneficiaries of the herein-named Charitable Trust, respectfully respond to the Master's Consolidated Report on the 109th, 110th, and 111th Annual Accounts filed on August 7, 1998, incorporating by reference the Attorney General's Report filed on December 3, 1997 with respect to the Master's Report on the 109th Annual Account filed on November 17, 1997. On the basis of the records and pleadings in this case, the Attorney General summarizes the major breaches of trust by the trustees and requests appropriate remedies.
A. The Master's Consolidated Report, together with the records and pleadings in this case, has documented the following breaches of trust:
B. The Master has documented numerous profound breaches of trust that violate
the fundamental purpose of the trust, the law, and numerous court orders. When the
Master sets forth a prima facie case of breach, the trustees have the burden of proving
that there is no breach. Monting v. Leong Kau , 7 Haw. 486 (1888); Nawahi
v. Trust Co. , 31 Haw. 958, 973 (1931); and Estate of Baker , 34 Haw.
263, 267-268 (1937).
C. For these breaches of trust, and to prevent further harm to the Estate and the beneficiaries, the Attorney General requests that this Court issue the following orders:
II. BREACHES OF TRUST
A. Educational Mission .
1. The Will of Bernice Pauahi Bishop created a charitable trust for the following purpose:
"to erect and maintain in the Hawaiian Islands two schools, each for boarding and day scholars, one for boys and one for girls, to be known as, and called the Kamehameha Schools . . . . I direct my trustees to invest the remainder of my estate in such manner as they may think best, and to expend the annual income in the maintenance of said schools; meaning thereby the salaries of teachers, the repairing buildings and other incidental expenses; and to devote a portion of each years income to the support and education of orphans, and others in indigent circumstances, giving the preference to Hawaiians of pure or part aboriginal blood; the proportion in which said annual income is to be divided among the various objects above mentioned to be determined solely by my said trustees they to have full discretion."
--Will , paragraph 13.
2. The Hustace Report on the 85th Annual Report of the Trustees filed on June 10, 1976, summarized the court orders expanding the educational mission to include occupational training, extension programs, scholarship programs, and allowing the main campus to exceed 2,750 persons.
12. By a Bill for Instructions filed on March 8, 1962, in Civil No. 9360, in connection with which judgment was entered on October 23, 1962, amended on January 7, 1963, further amended on April 6, 1964, and again amended by approved stipulation dated June 21, 1965, the trustees were permitted to:
a. Establish and maintain an Occupational Department of the Kamehameha Schools,
b. Establish and maintain an Extension Department of the Kamehameha Schools,
c. Provide a scholarship program to help worthy students obtain college or other advanced training, . . .
d. Establish and maintain suitable programs of education for items a to c above, and generally exercise the powers herein granted within the discretion of the trustees.
e. Not consider the judgment as limiting the full-time enrollment of students at the Kamehameha Schools to 2,750 persons.
--Hustace Report , pp. 20-21.
3. The trustees have failed to fulfill the educational mission of Princess Pauahi as follows:
a. Extension Programs . Beginning in 1993, the extension programs, which provided educational services to over 43,000 beneficiaries per year (11,000 KEEP and 32,000 community outreach), were phased out. Master's Consolidated Report , pp. 83-99.
b. Other Programs . While the trustees have initiated the GoForward program and other programs, these programs fall far short of utilizing the annual income which Princess Pauahi mandated be spent for educational purposes.
c. Strategic Plan . The trustees have failed to plan for the expansion of the educational mission consistent with increased revenues as required by the Will and by court orders. Master's Consolidated Report , pp. 83-99.
d. Accumulated Income . The trustees have accumulated approximately $350 million which the Will requires to be spent for educational purposes. Master's Consolidated Report , pp. 27-44.
4. The failure to fulfill the educational mission of the trust constitutes a fundamental breach of trust requiring Court action.
B. Beneficiaries .
1. The trustees have denied benefits to the beneficiaries of Bishop Estate as follows:
a. Extension Programs . In 1995, the trustees voted to eliminate the extension programs which provided educational services to over 43,000 beneficiaries annually (11,000 KEEP and 32,000 community outreach) upon the false premise that there was no money to fund both the extension programs and the GoForward program.
b. Other Programs . While the trustees have initiated the GoForward program and other programs, these programs fall far short of expending the annual income for the benefit of beneficiaries as required by the Will.
c. Strategic Plan . To the detriment of the beneficiaries, the trustees have failed to expand the educational mission consistent with revenues as required by the Will and by court orders.
d. Accumulated Income . The trustees have failed to spend approximately $350 million which the Will required be spent for the benefit of the beneficiaries. Compounding the seriousness of this failure, the Master has found that since 1988 the trustees have concealed from the Court and the beneficiaries this failure to provide benefits. This failure to disclose such important information to the Court and the beneficiaries clearly violates the Will and HRS 554-4 and 560:7-303.
2. The denial of $350 million in benefits to the beneficiaries, and the failure to account for this sum, constitute fundamental breaches of trust requiring Court action.
C. Strategic Plan .
D. Accumulated Income .
E. Duty of Care .
F. Governance .
G. Duty of Loyalty .
a. Lobbying against the intermediate sanctions law (which penalizes individual trustees for receiving excess compensation, rather than revoking the entity's tax exempt status);
b. Lobbying against legislative history which states that State legislation authorizing compensation "would not be determinative of the reasonableness of compensation paid" Committee Report on Public Law 104-168 (Taxpayer Bill of Rights 2(1996)); and
c. Lobbying for legislative history which would have created a presumption of reasonableness for compensation approved by the Probate Court. Master's Consolidated Report , p. 137.
The trustees used Estate funds to lobby against a law that punishes trustees for taking excessive compensation at the expense of the trust and its beneficiaries. The trustees' actions conflicted with the best interests of the trust and the beneficiaries and was unauthorized under HRS 554A-5(b). This constitutes a fundamental breach of trust requiring Court action.
a. Failure to report accumulated income.
b. Failure to account pursuant to GAAP.
c. Failure to account for subsidiaries.
d. Failure to report substantial losses.
e. Failure to report taking commissions on FDOC in violation of the agreement with the Attorney General.
f. Failure to certify to the correctness of their own Accounts.
g. Failure to provide basic information to the Master, the Attorney General and the beneficiaries, absent court order.
h. Failure of several trustees to disclose and to remedy breaches of trust by other trustees.
The intentional concealment of the accounts and of the true condition of the Estate constitutes a fundamental breach of trust requiring Court action.
III. MASTER'S RECOMMENDATIONS
A. Specific Recommendations .
1. The Attorney General agrees that the Master's recommendations 1 through 9, regarding financial and accounting reforms, should be ordered and implemented. Six of these recommendations (2 through 7) deal with the accumulation of income in violation of the Will and court orders. While these recommendations address the problem on a prospective basis, they do not begin to cure the past harm already inflicted upon the beneficiaries of Bishop Estate and the educational mission of the trust.
a. Implicit in the Master's numerous recommendations regarding financial and accounting reforms is the problem that Coopers and Lybrand has been the Estate's accountant for over 30 years. During this time, they have lapsed into accounting practices that are not up to their usual high standard. For example, their financial reports failed to call any attention to the accumulation of $350 million and the reclassification of this income to corpus. In his report on the 99th Annual Account filed on August 2, 1985, Master George Hong observed that this exceedingly long tenure called into question the independence of Coopers and Lybrand. The Arthur Andersen report on the financial and accounting deficiencies dramatically demonstrates the value of the normal business practice of changing accountants every three years. For these reasons, the Court should order the trustees to select an independent auditor every three years subject to approval by the Court and the Attorney General, as parens patriae.
2. The Attorney General agrees that the Master's recommendations 10 through 12,
regarding investment policies, procedures, and practices, should be ordered and implemented.
3. The Attorney General agrees that the Master's recommendations 13 and 14, regarding the development of a strategic plan and the implementation of the CEO structure under court supervision, should be ordered and implemented. In essence, the Master is requesting the Court to do what the trustees have failed to do.
Recommendation 14 should be amended to require the Receiver of the Estate to provide a timetable within 30 days and a draft plan within 60 days in order to insure implementation of the CEO structure within 180 days. If the CEO structure is not implemented within 180 days, the Receiver shall have 10 days in which to show cause why he should not be immediately removed for violation of this Court order. It is essential for the CEO structure to be in place before a meaningful strategic plan can be developed and implemented.
4. The Attorney General agrees that the Master's recommendations 15 through 18, regarding conflict of interest in trustee compensation and settlement of law enforcement investigations, should be ordered and implemented. Recommendation 18 should be expanded to include the Attorney General investigation, the Goldman Sachs public offering and commissions resulting therefrom, and all other conflict of interest transactions requiring court approval under HRS 554A-5.
a. AG Investigation . The trustees would clearly be in a conflict of interest in the resolution of any civil or criminal litigation arising out of the investigation.
b. Goldman Sachs. It has been widely reported that Bishop Estate's 10% share in Goldman Sachs may be worth $3 billion yielding trustees' commissions of $60 million. It is clear that rote application of the statutory 2% commission rate would yield excessive compensation in violation of law.
c. Bishop Estate Discovery Litigation . The Attorney General believes that Bishop Estate's payments to the McCorriston firm to litigate discovery and other matters is for the protection and benefit of the individual trustees and not the Estate or its beneficiaries. The entire thrust of the Attorney General's investigation is to investigate allegations of breach of fiduciary duty by individual trustees to the detriment of the trust and its beneficiaries. Under Hawaii law, the cost of the Attorney General's investigation for the benefit of the Estate is chargeable to the Estate, not the cost of defending individual trustees who have allegedly harmed the Estate. HRS 554-8. The use of Estate funds to defend individual trustees against allegations of breach of fiduciary duty to the trust is a conflict of interest which requires petition for instructions before Estate funds can be disbursed. HRS 554A-5.
The Court may review the propriety of employment, the reasonableness of compensation, and order a refund of any excessive or unauthorized compensation. HRS 560:7-205.
d. Advertising or Lobbying . Similarly, any advertising or lobbying for the benefit of the trustees rather than for the benefit of the Estate and the beneficiaries requires court authorization before Estate resources (personnel or money) can be expended. HRS 554A-5.
5. With respect to recommendation 19, regarding suspension of approval of accounts, the Attorney General believes that an accounting which conceals, rather than reveals, the true condition of a trust requires express disapproval. Because the trustees have deprived the beneficiaries of $350 million and concealed this and other basic information from the Court and the beneficiaries over a 10-year period, the accountings are fundamentally flawed. The Attorney General requests that the Receiver, or an independent auditor with full and unfettered access to the records of Bishop Estate, be commissioned to render an honest and proper accounting to the Court and the beneficiaries.
B. All Information Produced Pursuant to the Master's 19 Recommendations Should Be Provided to the Attorney General and Filed with the Court.
1 Princess Pauahi created a duty of accountability for her Trustees by directing in her will that:
[M]y said trustees shall annually make a full and complete report of all receipts and expenditures, and of the condition of said schools to the chief justice of the Supreme court, or other highest judicial officer in this country; and shall also file before him annually an inventory of the property in their hands and how invested, and to publish the same in some Newspaper published in said Honolulu[.]
A. Finding of Breach of Trust .
The settled practice of courts of equity is to regard the report of a Master upon questions of fact referred to him as having substantially the weight of the verdict of a jury, and his conclusions are not to be set aside or modified without clear proof of error or mistake on his part. Trow vs. Berry, 13 Mass., 146 [.]
--Monting v. Leong Kau , 7 Haw. 486, 487 (1888).
Findings of fact made by a master, while presumptively correct and entitled to a certain degree of weight, are, nevertheless, not conclusive on the trial judge and may be set aside by him if upon the evidence he is satisfied that the truth requires a finding to the contrary. 21 C. J. 622-624.
--Nawahi v. Trust Co. , 31 Haw. 958, 973 (1931).
The report and findings of the master constituted a prima facie showing of the correctness of the items in issue and the burden of overcoming this showing by evidence was upon the objectors. "The findings of the master are prima facie correct. Only such matters of law and of fact as are brought before the court by exceptions are to be considered, and the burden of sustaining the exception is on the objecting party." Medsker v. Bonebrake , 108 U.S. 66. (See also Richards v. Todd , 127 Mass. 167) In Trow v. Berry , 113 Mass. 139, it was held that "A master's report upon questions of fact will not be set aside or modified without clear proof of error."
--Estate of Baker , 34 Haw. 263, 267-268 (1937).
B. For Breach of Trust, The Trustees Should Be Denied Compensation.
2 "A trustee commits a breach of trust if he violates any duty that he owes as trustee to the beneficiaries." Scott on Trusts § 201, at 219.
C. For Breach of Trust, The Trustees Should Be Removed.
It may be that the usual procedure for the removal of a trustee is by a bill or petition brought for the purpose by an interested party. Indeed, in some States, it is required by statute. In the absence of statute, however, as is true in this Territory, we know of no precedent for the proposition that this method is exclusive. Let us assume, for instance, that a trustee whose account of his stewardship is submitted to a court of equity for approval is found by a master to have so misused the assets of the trust as to subject him to a surcharge and has so completely abused the confidence reposed in him that the estate is no longer safe in his keeping. It can scarcely be doubted, we think, that if under such circumstances it should be found upon a hearing of the exceptions to the master's report that the charges against the trustee are true the court would have the inherent power not only to impose the surcharge but also to remove the trustee. To hold otherwise would be to place an unwarranted and dangerous limitation upon the great powers which courts of equity have over trust estates. If jurisdiction to deal with this subject depended on affirmative action by an interested party a faithless trustee might do irreparable harm before such party became aware of his derelictions.
. . . .
We come now to the question whether Thayer's removal was under the evidence justified. The power of a court of equity to remove a trustee is a discretionary power and its exercise will not be disturbed on appeal unless the discretion has been abused. This rule is announced as follows in Murdoch, State's Attorney, v. Elliot, 77 Conn. 247, 255, 256: "The question primarily before us in this case is not whether this court would remove the trustees for these causes, if the trustees were on trial here; but it is whether the trial court, in refusing to remove them for these causes, did or did not wisely exercise the discretion which the law empowers it to exercise in such cases." In Suffolk v. Leiter, 261 Ill. App. 82, 108, it is stated: "Whether a trustee should or should not be removed is a question addressed to the sound discretion of the court, and is dependent upon the circumstances of each particular case." In Gaston v. Hayden, 98 Mo. App. 683, 693, it is said: "A court of equity may and will remove a trustee who has been guilty of some breach of trust or violation of duty. The exercise of this function by a court of equity belongs to what is called its sound judicial discretion and is not controlled by positive rules except that the discretion must not be abused." See also 3 Pomeroy, Eq. Jur., 1086.
--Holt, 33 Haw. 352, 355-357 (1935).
3. In the Holt case, the court permanently removed the trustee on the basis of the master's report, after a hearing on the trustee's exceptions thereto, for lack of stewardship and lack of mutual confidence between trustees.
It is evident that the relations between the trustees were not amicable and that there was a lack of mutual confidence. This should not be overlooked in determining whether the court below abused its discretion in removing Thayer. There is nothing in the record which reflects on his honesty or impugns his integrity. There is much, however, from which the court could reasonably have inferred that Thayer was not sufficiently careful and diligent in the performance of his duties to meet the requirements of good stewardship.
--Holt, 33 Haw. 352, 362 (1935).
4. In this case, the master has documented numerous profound breaches of trust and violations of duty which greatly exceed the lack of stewardship and mutual confidence which were sufficient cause for removal in the Holt case. Indeed, any of the numerous breaches of the duty to account alone, including the secret accumulation of $350 million in income and concealment from the Court and the beneficiaries, is sufficient for the Court to remove the trustees under Hawaii law. HRS 554-4.
5. In order to prevent further injury to the Estate and to the beneficiaries, the trustees should be removed in the interim and a receiver appointed. III Fratcher, Scott on Trusts 199.4 (4th ed. rev. 1988). While the trustees may argue that interim removal may disrupt important work of the Estate, including the Goldman Sachs public offering, this is not an impediment to appointment of a receiver. It is clear that an honest and capable receiver can be found. The dangers of keeping the existing trustees in office far exceed the danger of temporary disruption upon appointment of a receiver.
6. The court, on the record before it, has ample reason to remove the trustees
now. Such removal is warranted under the scenario presented by Holt, where failure
by the court to remove a trustee would subject the trust and its beneficiaries to
further harm by the trustee. Holt, 33 Haw. 352, 356 (1935).
7. The Attorney General will file a petition to remove trustees. The Attorney General anticipates that the petition will be filed in the immediate future, that the trial will take at least two months, and that the initial trial date may be after August, 1999. Given the carefully documented breaches of trust set forth in the Master's report, the Court should exercise its inherent power to remove the trustees now in order to avoid the delay inherent in a formal petition for removal process. This is exactly the situation which caused the Court in Holt to remove the trustee without waiting for a formal petition for removal.
A. For the reasons stated above, the Attorney General requests that the Court issue the following orders:
a. Selection of an independent auditor for the Estate every three years subject to approval by the Court and the Attorney General, as parens patriae;
b. Implementation of the CEO structure within 180 days;
c. Enforcement of HRS 554A-5(b) for all actions of the trustees in conflict with their fiduciary duty to the trust and its beneficiaries;
d. Contemporaneous delivery to the Attorney General and filing with the Court of all reports, plans, schedules, listings and other information produced to the Master in response to the Master's 19 Recommendations;
e. Such adoption and order shall not preclude the Master or the Attorney General from seeking or enforcing, nor the Court from adopting or ordering, such further recommendations, remedies or sanctions as may be equitable and appropriate with respect to these Accounts.
3. The trustees' compensation for the 109th, 110th, and 111th accounts and for
all periods thereafter is denied on the overwhelming record of past and continuing
breaches of trust, including failure to account, concealment of $350 million of accumulated
income, failure to carry out the educational mission of the trust, and denial of
educational benefits to the beneficiaries.
4. All trustees are immediately removed without compensation and are ordered to show cause why the removal of those responsible for the above-detailed profound breaches of fiduciary duties should not be made permanent. The Court, in the exercise of its equity powers over the administration of trusts, has found interim removal necessary for the protection of the trust and its beneficiaries based on the overwhelming record of past and continuing breaches of trust already documented in the records and pleadings of this case.
5. __________________ is appointed Receiver to manage the Estate.
6. The Receiver shall conduct a complete and proper accounting for the 109th, 110th, and 111th accounts.
7. The Court shall make such other and further orders necessary or proper for the protection or benefit of Bishop Estate and its beneficiaries.
DATED: Honolulu, Hawaii, SEP 09 1998.
MARGERY S. BRONSTER
State of Hawaii
KEVIN T. WAKAYAMA
Deputy Attorney General
IN THE CIRCUIT COURT OF THE FIRST CIRCUIT
STATE OF HAWAII
In the Matter of the Estate
|EQUITY NO. 2048
CERTIFICATE OF SERVICE
I hereby certify that on SEP 09 1998, a copy of ATTORNEY GENERAL'S RESPONSE TO MASTER'S CONSOLIDATED REPORT ON THE 109TH, 110TH, AND 111TH ANNUAL ACCOUNTS; CERTIFICATE OF SERVICE was duly served by hand delivery at their known address:
ROBERT BRUCE GRAHAM, JR. ESQ.
Ashford & Wriston
Alii Place, Suite 1400
1099 Alakea Street
Honolulu, Hawaii 96813
Attorney for Trustees Under the
Will and of the Estate of
Bernice Pauahi Bishop, Deceased
COLBERT M. MATSUMOTO, ESQ.
Matsumoto LaFountaine & Chow
Amfac Tower, Suite 2000
700 Bishop Street
Honolulu, Hawaii 96813
DATED: Honolulu, Hawaii, SEP 09 1998____________________________.
KEVIN T. WAKAYAMA
Deputy Attorney General