Employee Ownership Legal Digest (22) Archive

Stay informed on the latest legal developments impacting employee ownership. This page provides timely and concise summaries of key cases and rulings, contributed by experienced attorneys, to help the entire employee ownership community understand their implications, and also offers access to NCEO's archive of prior content.

Corey Rosen

GreatBanc Can’t Use Release to Avoid Fiduciary Litigation

In McMaken v. GreatBanc Tr. Co., No. 1:17-cv-04983 (N.D. Ill., Aug. 21, 2019) a district court ruled that GreatBanc cannot use a release signed by the plaintiff Michael McMaken from claims against Chemonics or any of its fiduciaries when he left the ESOP-owned firm Chemonics. The court ruled that GreatBanc was a fiduciary for the ESOP trust and its reading of the release was too broad. GreatBanc had contended that its status as a fiduciary included being a fiduciary to the company.

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Corey Rosen

$6.5 Million Judgment in Sentry Equipment Case

In Pizzella v. Vinoskey, No. 6:16-cv-00062, (W.D. Va., Aug. 2, 2019), a district court imposed a $6.5 million judgment in an ESOP valuation case. An ESOP had bought the remaining shares of Sentry Equipment in the transaction for $21 million. The court ruled that the ESOP trustee, Evolve Bank and Trust, relied on an investigation of the transaction that was “rushed and cursory” because of the desire to close the transaction quickly. Part of the dispute revolved around whether to use a capitalization of earnings method, as was the case here, or discounted cash flow (DCF), which the DOL’s expert argued was usually the appropriate standard (generally, which method to use depends on how much past earnings best predict future earnings). The court said that the DCF standard was more common by a “small margin,” although it did not suggest the basis for that. The court also disagreed with the control assumptions because, even though the ESOP had 100% ownership, certain elements of the transaction, such as including the prior owners’ remaining involvement, reduced the trust’s effective control. Other factors included how various costs were calculated and the assumed weighted average cost of capital. The court also said that Evolve showed no evidence that it tried to negotiate the price.

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Corey Rosen

Wawa Gets Appeal of ESOP Case

In Cunningham v. Wawa, Inc., No. 19-8029, (3rd Cir., order granting petition to appeal, Aug. 13, 2019), Wawa convinced an appeals court to review a lower court ruling that certified a class of 1,000 who claimed they were improperly prevented from keeping their Wawa stock until they turned 68. Wawa agreed the employees could challenge the stock price, but not a change in provisions in the plan to move employees out of stock after termination. Wawa argues that the “right-to-hold” claim is a function of how much individuals relied on information provided by Wawa that members of the loss claim were misleading, so only individuals can sue. For instance, one of the plaintiffs admitted that the information did not support the claim.

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Corey Rosen

Claim Based on Post-ESOP Drop in Shares Due to Leverage is Decisively Rejected

In Lee v. Argent Trust, No. 5:19-cv-00156-BO (W.D.N.C., Aug. 7, 2019) a district court ruled that a post-transaction drop in the value of Choate Construction’s ESOP stock value from $198 million to $65 million did not indicate a fiduciary violation by the plan’s trustee, Argent Trust. The court ruled that the drop was due to the leverage used to buy the shares. The court said the plaintiff was not harmed by the transaction, nor did she allege any additional harm from the post-transaction drop in value. Moreover, the judge said that she “fundamentally misunderstood” the nature of the transaction. The judge wrote that rather than focusing on a simple before and after comparison, “it is better to conceive of this transaction, as defendants have argued, as being comparable to the purchase of a mortgage-financed house” in which the equity value naturally declines.

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Corey Rosen

Department of Labor Brief in IBM Stock Case Argues Securities Law Rules Should Be the Basis for Whether to Disclose Adverse Information

In an Aug. 18, 2019, amicus brief to the Supreme Court in the case of Jander v. IBM, the Department of Labor argued that the proper standard for determining if a fiduciary should disclose insider information affecting company stock in a retirement plan should be what securities law requires.

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Corey Rosen

Former Wawa Employees Certified as a Class in Suit Over Change in ESOP Distribution Rules

In Cunningham v. Wawa et. al., No. 218-cv-03355-PD (E.D., Pa., July 2, 2019), over 1,000 former Wawa employees were granted class action in a lawsuit over changes in Wawa’s ESOP distribution rules. The same issue was the subject of a prior settlement that did not include these employees. Wawa is a very large chain of convenience markets whose ESOP owns over 40% of the stock. In the past, employees could hold onto shares after they left the company through age 68. That was changed to provide for account segregation when employees terminated. Account segregation moves funds into other investments—in this case Wawa’s 401(k) plan—prior to distribution. It is a common ESOP practice designed both to protect former participants from investment concentration risk and to make more shares available to current employees. ERISA allows companies to change the form of investment.

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Corey Rosen

Trustee, Board Members Must Defend Actions in ESOP Valuation Case

In Zavala v. Kruse-Western, Inc., No. 1:19-cv-00239-DAD-SKO (E.D. Cal., July 26, 2019), a district court ruled that GreatBanc Trust and the board of Kruse-Western must defend themselves in a lawsuit over the 90% drop in stock price following a $244 million ESOP buyout. The share price fell both because of leverage and a poisoning of horses that resulted from feed from Kruse-Western’s Western Milling division. The court said that GreatBanc was not exempt just because it obtained a proper valuation. It also ruled that the Dudenhoeffer standard, which allows trustees to defend themselves by arguing they cannot be presumed to be able to outguess the market, does not apply to private companies because it assumes public market information.

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Corey Rosen

Two SunEdison Stock-Drop Cases Result in Wins for Defendants

In O’Day v. Chatila, No. 18-2621 (2nd Cir., June 7, 2019, unpublished), the Second Circuit affirmed a lowa court ruling stating that employees had not alleged a sufficient claim to overcome the Dudenhoeffer rule that plaintiffs must show that defendants had a plausible alternative course of action with regard to company stock investments in a retirement plan that would not have done more harm than good. Plaintiffs contended SunEdison executives knew or should have known that the company was on the verge of bankruptcy and should have taken actions to protect employee interests with respect to the stock they had purchased or could have purchased in the company’s 401(k) plan. The court ruled that the defendants could not have been assumed to be able to outguess the market and that even if the defendants had inside information regarding SunEdison’s financial problems, disclosing this information could have done more harm than good. The court distinguished this case from the IBM case discussed above where the Sixth Circuit ruled that plaintiffs could proceed because such early disclosure might have done more good than harm. The court also ruled that the fact that the compensation of SunEdison defendants was linked to the
stock price was evidence that they acted imprudently.

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Corey Rosen

Supreme Court Agrees to Review IBM Stock-Drop Decision

In Retirement Plans Committee of IBM v. Jander, No. 18-1165 U.S. (certiorari granted June 3, 2019), the U.S. Supreme Court agreed to review a Second Circuit decision that could have a significant impact on how the Dudenhoeffer standard is interpreted. The Second Circuit had reversed and remanded a lower court ruling that found that the trustees of IBM’s ESOP were not in violation of their fiduciary duty when they failed to disclose that a major division of the company was overvalued. The lower court ruled that plaintiffs failed to show disclosure would not have done more harm than good. The Sixth Circuit, however, ruled that this standard is too strict, and that, in this case, plaintiffs credibly pled that disclosing this issue could at least possibly have done more good than harm. Only the Sixth Circuit has taken the view that this is possible in any stock drop case.

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Corey Rosen

ESOP Law Firm Can’t Escape Liability

In Bloostein et al. v. Morrison Cohen LLP et al. No. 651241/2102, (Supreme Court of NY, Feb. 19, 2019), the law firm Morrison Cohen was denied a motion to dismiss a case against it arguing that advice it provided to sellers to multiple ESOPs caused them to lose their tax deferral in a Section 1042(a) transaction. The sellers paid $24 million in capital gains as a result. The sellers bought ESOP notes issued by Stonebridge Pass-Through Trust, with the bonds financed ultimately by Nomura International. Initially, the terms of the loan said that Nomura could sell the bonds if their grade dropped below a certain level, but at the last minute that was changed to allow a sale even if the insurance policy on the bonds fell. That latter event happened, and Nomura sold the bonds, creating a taxable event for sellers. Morrison Cohen said that it had relied on a tax opinion of another firm issued to the sellers, but the court decided that these opinions were not more than opinions, and that the plaintiffs could pursue their case against Morrison Cohen for not warning them of the potential risk. Morrison Cohen will appeal.

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