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Plausible Sheep vs. Meritless Goats, Part II

Fiduciary Rules and Practices

The U.S. Supreme Court will, once again, take up the issue of where, and how, to draw the line between the obligations of corporate officials and ERISA plan fiduciaries.

Specifically, the Supreme Court has now decided (Ret. Plans Comm. of IBM v. Jander, U.S., No. 18-1165, certiorari granted 6/3/19) to consider “Whether Fifth Third Bancorp v. Dudenhoeffer’s ‘more harm than good pleading standard can be satisfied by generalized allegations that the harm of an inevitable disclosure of an alleged fraud generally increases over time.”

Current Case

The issue most recently arose in litigation involving IBM, where plaintiffs alleged that the IBM defendants (IBM itself, along with the Retirement Plans Committee of IBM; Richard Carroll, IBM’s Chief Accounting Officer; Martin Schroeter, IBM’s CFO; and Richard Weber, IBM’s general counsel) failed to prudently and loyally manage the plan’s assets and adequately monitor the plan’s fiduciaries. Specifically, they argued that once the defendants learned that IBM’s stock price was artificially inflated, they should have either disclosed the truth about Microelectronics’ value or issued new investment guidelines temporarily freezing further investments in IBM stock by the plan.

Judge William H. Pauley III of the U.S. District Court for the Southern District of New York held that the plaintiffs failed to establish that the defendants were de facto fiduciaries, then went to apply the standards for such cases established in Fifth Third Bancorp v. Dudenhoeffer, 573 U.S. ___, 134 S.Ct. 2459 (2014), which had been the law of the land in such matters since – well, 2014. Under the new “Fifth Third” standard, plaintiffs now 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.”

Prudence Past

Before that there had been a “presumption of prudence” with regard to company stock holdings. That presumption went back to the 1995 Moench v. Robertson case, where a plan participant sued a plan committee for breaching its fiduciary duty based on its continued investment in employer stock after the employer’s financial condition “deteriorated.” In that case the Third Circuit affirmed the duty of prudence, but looked to ERISA’s diversification requirement and the allowances made for employer stock holdings in an employee stock ownership plan (ESOP), and found a rebuttable presumption that an ESOP fiduciary that invested plan assets in employer stock acted consistently with ERISA. In the aftermath of the Moench ruling, nearly every court district court that considered the issue of prudence of employer stock holding had rejected plaintiff claims based on this so-called “presumption of prudence.” 

But on appeal, Judge Pauley’s IBM decision was overturned by Chief Judge Robert A. Katzmann (joined in the opinion by Judges Robert D. Sack and Reena Raggi) of the U.S. Court of Appeals for the Second Circuit, who, in December 2018, concluded that, in fact, the plaintiffs plausibly alleged facts showing that a prudent ERISA fiduciary “could not have concluded” that a corrective disclosure of an allegedly overvalued IBM business would have done “more harm than good to the fund.” 

Review ‘Views’

In March, the IBM defendants sought the review of the case by the nation’s highest court, harkening back to the Fifth Third decision, noting that “the Court designed this ‘context specific’ standard to deter the kind of meritless suits lower courts had eliminated through a presumption of prudence” (which the Court rejected) and to “readily divide the plausible sheep from the meritless goats at the pleading stage.”

They went on to claim that in its ruling in the IBM case, “the Court of Appeals subverted that pleading standard and opened a circuit split by relying on boilerplate allegations that the harm of an eventual disclosure of an alleged fraud typically increases the longer the fraud continues,” that “those allegations ‘always’ can be, and routinely are, pleaded in support of a Fifth Third claim,” that “other courts of appeals have rejected the same allegations as insufficient as a matter of law,” and that therefore, “in order to avoid undermining the pleading standard imposed by Fifth Third and Amgen and to deter meritless ERISA suits,” the Supreme Court needed to weigh in.

The participant-plaintiffs saw it differently, of course – responding that IBM “misstated the Second Circuit’s holding to manufacture a phony conflict with the Fifth and Sixth Circuits,” and noting that “…the ‘particularly important’ factual allegations for the Second Circuit were those concerning IBM’s efforts to sell Microelectronics; those efforts made disclosure of the value of Microelectronics inevitable in a way unique to the facts of this case that could not simply be replicated in another duty-of-prudence action.”

Why This Matters

In 2014 the Supreme Court seemed truly concerned that the “presumption of prudence” standard basically established a standard that was effectively unassailable by plaintiffs – and in fact, until that point the vast majority of these cases (including BP and Delta Air Lines, Lehman and GM) failed to get past the summary judgment phase. Indeed, the plaintiff in the IBM case had argued that no duty-of-prudence claim against an ESOP fiduciary has passed the motion-to-dismiss stage since the 2010 decision in Harris v. Amgen. They had also noted that “imposing such a heavy burden at the motion-to-dismiss stage runs contrary to the Supreme Court’s stated desire in Fifth Third to lower the barrier set by the presumption of prudence.”

However, when the “more harm than good” standard emerged with Fifth Third Bancorp v. Dudenhoeffer, it didn’t just establish a new standard, it led to a refiling of claims of many of the so-called “stock drop” suits.Ironically, up until the IBM decision, those too had generally come up short of the new standard – though they did at least get past the summary judgment stage.

If a new standard does emerge – look for a new wave of “old” litigation. Will there be new results? Will the Supreme Court’s renewed review do “more harm than good?” We shall see. 

The case is Ret. Plans Comm. of IBM v. Jander, U.S., No. 18-1165, certiorari granted June 3, 2019.