On February 6, 2018, the Court of Appeals for the Fifth Circuit in Singh v. RadioShack Corp. aligned with the Second Circuit and affirmed the dismissal of Plaintiffs’ proposed class action. The suit alleged that plan fiduciaries breached their fiduciary duties of prudence and loyalty by continuing to invest retirement assets of the employee stock ownership plan (“ESOP”) in company stock, despite knowledge of both public and insider information that RadioShack was in dire financial straits, by failing to monitor the continued prudence of investing in employer stock, and by suggesting that the Defendants violated a duty of loyalty where some owned RadioShack stock and others did not. The court held that Plaintiffs did not meet the standards for pleading an ERISA breach of the duty of prudence claim with respect to an ESOP based on public information and insider information, the standards of which were outlined in Fifth Third Bancorp. V. Dudenhoeffer, a seminal 2014 U.S. Supreme Court case involving ESOP issues.
Public Information – “Special Circumstances” Exception
Under Dudenhoeffer, “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.” Thus, in the absence of special circumstances that render the market price unreliable, ERISA fiduciaries may prudently rely on the market price as a fair assessment of the stock’s value. The Supreme Court has not defined “special circumstances,” but has said that such circumstances “affect the reliability of the market price as an unbiased assessment of the security’s value in light of all public information.”
Plaintiffs in Singh alleged that the ESOP’s employer stock was “excessively risky” and argued that being so was distinct from being over-valued and, therefore, not subject to the “special circumstances” exception set forth in Dudenhoeffer. The court disagreed, finding that the “special circumstances” standard applied, and stated that “although Dudenhoeffer was primarily framed in terms of over-valued stock allegations, it applies equally to Plaintiffs’ public information claims premised on excessive risk.” When analyzed under the standard, the court concluded that the market accounted for the negative public information concerning RadioShack’s financial troubles and that Plaintiffs failed to establish special circumstances making the market price unreliable.
This is important because Dudenhoeffer clearly states that a fiduciary may rely on a publicly traded stock price as the best available estimate unless special circumstances would make such reliance inappropriate or imprudent. In other words, a fiduciary may conclude that one cannot beat the market which presumably knows all and is an efficient marketplace, and has no duty to guess or predict in what direction or when the stock price may move. This presumption of an efficient market has long been recognized in the federal securities law.
Insider Information – “More Harm Than Good” Standard
Dudenhoeffer also established the “more harm than good” standard. In order to state a duty of prudence claim based on non-public (insider) information with respect to an ESOP, “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.” In a 2016 case, the Fifth Circuit clarified that “the plaintiff bears the burden of proposing an alternative course of action so clearly beneficial that a prudent fiduciary could not conclude that it would be more likely to harm the fund than to help it.” Plaintiffs argued that the plan administrative committee (“Committee”) should have frozen new investments in company stock earlier and that defendants should have divested the ESOP’s holding of RadioShack stock and that failing to do violated ERISA’s prudence requirements. Because a prudent fiduciary could reasonably conclude that these actions would have done more harm than good – freezing company stock would signal to the market that insider fiduciaries viewed it as a bad investment and selling off RadioShack stock at an all-time low would have locked in participant losses – the “more harm than good standard” was not met.
The other claims alleged by Plaintiffs include the breach of the duty of loyalty and failure to monitor investments. Plaintiffs claimed that some Committee members breached their fiduciary duty of loyalty since they declined to invest in company stock. The court found that fiduciaries need not personally invest in a particular asset in order to fulfill his duty. Plaintiffs also claimed that the Board of Directors breached their fiduciary duty to monitor the continued prudence of company stock or to properly monitor plan fiduciaries. However, the court would not hold corporate directors personally liable for failing to monitor fiduciaries appointed by them where there is no finding of a fiduciary breach by Committee members.
It is important to remember that the benefit of the Dudenhoeffer presumption, in our view, requires that the plan fiduciary have a well documented and implemented process that establishes that there are no special circumstances available to defeat the presumption. In other words, the presumption requires an underlying showing that the plan fiduciary has conducted itself properly and prudently in determining the absence of special circumstances.