U.S. Supreme Court: No Special Presumption of Prudence For ESOP Fiduciaries

U.S. Supreme Court: No Special Presumption of Prudence For ESOP Fiduciaries

 WASHINGTON, D.C. — (Mealey’s) The U.S. Supreme Court today ruled unanimously that under the Employee Retirement Income Security Act, employee stock ownership plan (ESOP) fiduciaries are not entitled to a presumption of prudence and are subject to the same standard of prudence as all ERISA fiduciaries, “except that an ESOP fiduciary is under no duty to diversify the ESOP’s holdings” (Fifth Third Bancorp, et al. v. John Dudenhoeffer, et al., No. 12-751, U.S. Sup.; See April 2014, Page 4) [lexis.com subscribers may access Supreme Court briefs and the opinion for this case].

Writing for the unanimous court, Justice Stephen Breyer said that ESOP fiduciaries are subject to ERISA Section 404(a)(1)(B)’s duty of prudence and that ERISA Section 404(a)(2) “does not create a special presumption favoring ESOP fiduciaries.” 

Section 404(a)(2), which “establishes the extent to which those duties are loosened in the ESOP context to ensure that employers are permitted and encouraged to offer ESOPs[,] . . . makes no reference to a special ‘presumption’ in favor of ESOP fiduciaries.  It does not require plaintiffs to allege that the employer was on the ‘brink of collapse,’ under ‘extraordinary circumstances,’ or the like,” Justice Breyer said.

Instead, it merely provides that an ESOP fiduciary is exempt from Section 404(a)(1)(C)’s diversification requirement and from Section 404(a)(1)(B)’s duty of prudence, but “only to the extent that it requires diversification,” Justice Breyer emphasized.

Subprime Lending

John Dudenhoeffer and Alireza Partovipanah, former employees of Fifth Third Bank, are participants in the Fifth Third Bancorp Master Profit Sharing Plan, a defined contribution plan, and invested in Fifth Third common stock through the plan.  The investment options included the company stock, two collective funds and 17 mutual funds.

The participants sued Fifth Third and the plan trustees, alleging that the defendants breached their fiduciary duties by continuing to invest in and hold company stock despite the defendants’ knowledge of the risks presented by its switch from being a conservative lender to a subprime lender.  The participants also alleged that the defendants breached their fiduciary duties by failing to provide the participants with accurate and complete information about the company’s investments and by failing to monitor the performance of their fiduciary appointees.

The U.S. District Court for the Southern District of Ohio granted the defendants’ motion to dismiss.  On Sept. 5, 2012, the Sixth Circuit U.S. Court of Appeals held that the presumption that ESOP fiduciaries acted reasonably by continuing to invest in and hold company stock does not apply at the motion-to-dismiss stage.

The Sixth Circuit held that no presumption applied but said that “the proper question at the [Federal Rule of Civil Procedure 12(b)(6)] stage in this case is whether the Amended Complaint pleads ‘facts to plausibly allege that a fiduciary has breached its duty to the Plan’ and a causal connection between that breach and the harm suffered by the plan—‘that an adequate investigation would have revealed to a reasonable fiduciary that the investment [in Fifth Third Stock] was improvident.’”

The Sixth Circuit also held that the express incorporation of Securities and Exchange Commission filings into an ERISA-mandated summary plan description (SPD) is a fiduciary communication that can be the basis for a breach of fiduciary duty claim.

Review Sought

Fifth Third filed a petition for a writ of certiorari.  On Nov. 12, Solicitor General Donald B. Verrilli Jr., in response to the Supreme Court’s invitation to file a brief expressing the view of the United States, urged the Supreme Court to review the presumption-of-prudence issue but to not grant review of the incorporation-by-reference question.

The Supreme Court agreed to hear the presumption-of-prudence issue but declined to review the Sixth’s Circuit incorporation-by-reference ruling.

Amicus briefs in support of Fifth Third were filed by KeyCorp; Delta Air Lines Inc.; Chamber of Commerce of the United States of America, ERISA Industry Committee, American Benefits Council, Plan Sponsor Council of America and National Association of Manufacturers (collectively, Chamber of Commerce); Securities Industry and Financial Markets Association (SIFMA); and ESOP Association.

In addition to the United States, amicus briefs in support of the participants were filed by AARP, American Federation of Labor and Congress of Industrial Organizations (AFL-CIO) and seven law professors who write and teach about pension and employee benefits law.

No Presumption

The Supreme Court rejected Fifth Third’s argument that a presumption of prudence is justified by the nonpecuniary special purpose of an ESOP — employee ownership of employer stock.

Fifth Third’s argument that the plan documents waived the duty of prudence to the extent that it conflicted with investment in employer stock also failed “in light of this Court’s holding that, by contrast to the rule at common law, ‘trust documents cannot excuse trustees from their duties under ERISA,’” the court said.

Addressing Fifth Third’s concern that subjecting ESOP fiduciaries to a duty of prudence without the protection of a presumption of prudence will lead to conflicts with securities laws’ prohibition on insider trading, the court said that the concern “is a legitimate one.  But an ESOP-specific rule that a fiduciary does not act imprudently in buying or holding company stock unless the company is on the brink of collapse (or the like) is an ill-fitting means of addressing it.”

Remand Ordered

Although the Supreme Court agreed with the Sixth Circuit’s conclusion that no presumption applied, it vacated the Sixth Circuit’s judgment and ordered the appellate court on remand to consider whether the complaint stated a claim under the pleading standard of Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007) [an enhanced version of this opinion is available to lexis.com subscribers] and Ashcroft v. Iqbal, 556 U.S. 662 (2009) [enhanced version].

“In our view, where a stock is publicly traded, allegations that a fiduciary should have recognized from publicly available information alone that the market was over- or undervaluing the stock are implausible as a general rule, at least in the absence of special circumstances. . . . ERISA fiduciaries . . . may, as a general matter, likewise prudently rely on the market price,” Justice Breyer wrote 

The Supreme Court instructed that “[t]o state a claim for breach of the duty of prudence on the basis of inside information, a plaintiff must plausibly allege an alternative action that the defendant could have taken that would have been consistent with the securities laws and that a prudent fiduciary in the same circum­stances would not have viewed as more likely to harm the fund than to help it.”  The court noted that ERISA fiduciaries are not required to sell ESOP’s holdings in violation of securities laws.

In addition, “where a complaint faults fiduciaries for failing to decide, on the basis of the inside information, to refrain from making additional stock purchases or for failing to disclose that information to the public so that the stock would no longer be overvalued, . . . [t]he courts should consider the extent to which an ERISA-based obligation either to refrain on the basis of inside information from making a planned trade or to disclose inside information to the public could conflict with the complex insider trading and corporate disclosure requirements imposed by the federal securities laws or with the objectives of those laws,” Justice Breyer said.

Finally, the courts should “consider whether the complaint has plausibly alleged that a prudent fiduciary in the defendant’s position could not have concluded that stopping purchases—which the mar­ket might take as a sign that insider fiduciaries viewed the employer’s stock as a bad investment—or publicly disclosing negative information would do more harm than good to the fund by causing a drop in the stock price and a concomitant drop in the value of the stock already held by the fund,” Justice Breyer said.


Fifth Third is represented by Robert A. Long Jr., David M. Zionts and John M. Vine of Covington & Burling in Washington and James E. Burke, Joseph M. Callow Jr., Danielle M. D’Addesa and David T. Bules of Keating Muething & Klekamp in Cincinnati.

The participants are represented by Ronald Mann of Columbia Law School in New York; Joseph H. Meltzer, Edward W. Ciolko and Shannon O. Braden of Kessler Topaz Meltzer & Check in Radnor, Pa.; Thomas J. McKenna and Gregory M. Egleston of Gainey & McKenna in New York; and Maurice R. Mitts of Mitts Law in Philadelphia. 

Amicus United States is represented by Verrilli, Deputy Solicitor General Edwin S. Kneedler and Assistant to the Solicitor General John F. Bash of the Department of Justice and Solicitor of Labor M. Patricia Smith, Acting Associate Solicitor G. William Scott, Counsel for Appellate and Special Litigation Elizabeth Hopkins and Attorney Thomas Tso of the U.S. Department of Labor.  All are in Washington.

Amicus KeyCorp is represented by Daniel R. Warren, Scott C. Holbrook, James A. Slater Jr. and David A. Carney of Baker & Hostetler in Cleveland.  Amicus Delta is represented by Paul D. Clement, Jeffrey M. Harris and Barbara A. Smith of Bancroft in Washington.  Amici Chamber of Commerce of the United States of America, et al., are represented by Myron D. Rumeld, Mark D. Harris, John E. Roberts and Russell L. Hirschhorn of Proskauer Rose in New York; Kate Comerford Todd and Steven Lehotsky of National Chamber Litigation Center in Washington; Scott Macey and Debra A. Davis of The ERISA Industry Committee in Washington; Janet M. Jacobson of American Benefits Council in Washington; and Christina Crooks and Patrick Forrest of National Association of Manufacturers in Washington.  Amicus SIFMA is represented by Mark A. Perry, Paul Blankenstein and Ashley S. Boizelle of Gibson, Dunn & Crutcher and Kevin Carroll of SIFMA in Washington.  Amicus ESOP Association is represented by Charles M. Dyjke and Sean T. Strauss of Trucker Huss and Laurence A. Goldberg and Lynn H. Dubois of ESOP Law Group.  All are in San Francisco.

Amicus AARP is represented by Jay E. Sushelsky of AARP Foundation Litigation and Melvin Radowitz of AARP in Washington.  Amicus AFL-CIO is represented by James B. Coppess, Lynn K. Rhinehart, Amanda M. Jaret and Harold C. Becker of AFL-CIO in Washington and Laurence Gold in Washington.  Amici law professors are represented by Lynn L. Sarko and Erin M. Riley of Keller Rohrback in Seattle and David Pratt of Albany Law School in Albany, N.Y.

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