The Employee Ownership ReportConcisely written for leaders in employee ownership companies and for service providers in the field, the NCEO's bimonthly newsletter, the Employee Ownership Report, is the most efficient way to stay informed about legal issues, current events, best practices, breaking research, management approaches, and communications ideas for employee ownership companies.
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We also publish a shorter, monthly newsletter on equity compensation issues in private companies and companies with broad-based plans, the Equity Compensation Report.
Sample Article from the November-December 2013 Issue:
Few ESOP Cases Make It to Court in Last YearThe last 12 months have seen relatively little activity in ESOP litigation, with only seven new ESOP decisions issued. Two of these were on valuation, one on indemnification, one on the presumption of prudence, one on S-ESOP anti-abuse rules, and two on standing. Courts have, however, been more active on "stock-drop" cases in 401(k) plans, with several circuit court decisions on the presumption of prudence rule.
ESOP CasesThe most important decision regarding ESOPs was on indemnification. In Harris v. GreatBanc Trust Co., Sierra Aluminum Co., & Sierra Aluminum ESOP, a district court ruled that GreatBanc could be indemnified for its role as the ESOP fiduciary. The decision is significant in that it occurred in the one circuit (the Ninth) that has taken the position that indemnification should not be allowed, especially in a 100% ESOP (see Johnson v. Couturier).
In the Couturier case, the court ruled that ESOP plan assets were not distinguishable from company assets, but in the Sierra Aluminum case the district court ruled that regulations (29 C.F.R. § 2510.3-101(h) (3)) of ERISA Section 410 state that in the case of an ESOP, the plan's assets and the company assets are treated as separate. The district court distinguished this case from Couturier on several counts. For example, in Couturier the company had already been liquidated and was thus no longer an operating company. The court also noted in that in Couturier, plaintiffs had already shown likelihood to prevail on fiduciary charges, something that could not be said of this case. Finally, the Couturier case involved no exceptions for breaches of fiduciary duty, as was the case here, but only for "gross negligence" and "willful misconduct."
The other ESOP cases had less significance in terms of implications for plan sponsors. In Chesemore v. Alliance Holdings Inc., a district court imposed a substantial settlement on the defendants in a case in which they were deemed to have forced a subsidiary to use an ESOP to buy shares at an inflated price and give one of the defendants an unwarranted number of phantom shares.
In Yarish Consulting, Inc. v. Commissioner, a tax court ruled against a doctor using an ESOP in an S corporation in a clearly abusive transaction.
In Enneking v. Schmidt Builders Supply Inc., plaintiffs were allowed more time to pursue their claims when the court ruled that critical information had been concealed from them.
In Rodgers v. Mattingly Foods, a district court ruled that ESOP participants could proceed with shareholder claims against management under state law rather than being preempted by ERISA. Although that seems to open up a major new area for plaintiff litigation, the facts of the case and the narrow grounds of the decision make that unlikely.
Presumption of PrudenceCourts came to mixed conclusions on the presumption of prudence rule for ESOP fiduciaries, but generally upheld the standard. The 11th Circuit had the most nuanced decisions. In Smith v. Delta Airlines Inc., it reinstated an employee claim that the fiduciaries of Delta's 401(k)/ESOP imprudently breached their duties by allowing Delta stock to continue as an investment option in the face of sharply declining earnings at the start of the last decade. In 2006, a district court dismissed Smith's claim as a "failure to diversify" claim prohibited by ERISA 404(a)(2). In Fisch v. SunTrust Banks Inc., the court said the presumption did not hold if plaintiffs could show the investment met the criteria outlined in Lanfear v. Home Depot, namely that "a fiduciary could not reasonably have believed the plan sponsor would have intended the fiduciary, under the circumstances then existing, to continue investing in and holding the company's stock."
In White v. Marshall & Ilsley Corp., the Seventh Circuit court upheld the presumption on the grounds that the stock could have gone up and fiduciaries would then have had to risk being sued for removing it prematurely.
The Second Circuit more unambiguously endorsed the presumption of prudence in Majad v. Nokia Inc., and Slaymon v. SLM Corp, although it narrowed it slightly in Taveras v. UBS AG, based on whether the plan documents required investment in company stock or not. The Ninth Circuit court agreed with this approach in Harris v. Amgen. Finally, in Kopp v. Klein, the Fifth Circuit Court of Appeals joined the Second, Third, Seventh, Ninth, and Eleventh Circuits in upholding the presumption.
The Sixth Circuit, however, has been more circumspect about the presumption of prudence as a cause for dismissal at the pleading stage, as it again showed in Griffin v. Flagstar Bancorp Inc. and in Dudenhoefer v. Fifth Third Bancorp.
The Supreme Court had three opportunities to review the presumption of prudence in Gray v. Citigroup Inc., Gearren v. McGraw-Hill Cos, and Fisher v. JPMorgan Chase & Co., but declined to do so.
DisclosureIn Harris v. Amgen, the Ninth Circuit ruled that fiduciaries may be required to disclose material information about the company to plan participants that could affect company stock, but in Fisch v. SunTrust Banks Inc., courts ruled that fiduciaries do not have a duty to disclose nonpublic information.
The NCEO's ESOP and 401(k) Plan Employer Stock Litigation Review 1990-2013 provides a comprehensive review of employer stock litigation.