In recent years, class actions alleging various types of ERISA violations have become increasingly popular. Plaintiff lawyers have asserted a number of creative and innovative arguments in their attempts to create liability exposure—and thus justify settlements—in new factual contexts. As more of these cases proceed through the legal system, a general lesson seems to be emerging—defendants who force plaintiffs to actually prove their allegations are frequently successful in defeating the claims, but defendants who settle the claims earlier in the case frequently pay large amounts.
The following summarizes recent developments in three types of ERISA class action lawsuits.
A. ERISA Stock Drop Cases
Over the last several years, ERISA class action lawsuits have been filed with increased frequency and vigor following a drop in a company’s stock price. See The ACE Report, ERISA Tagalong Class Actions: A New Frontier for D&O Liability (July 2003). These cases were originally viewed as little more than a “tagalong” to the related securities class action litigation, which is brought on behalf of all purchasers of company stock during the class period. The “tagalong” lawsuit is brought only on behalf of plan participants who purchased company stock during the class period. Like the securities class action, the “tagalong” suit alleges the defendants failed to make truthful disclosures to the plan participants about the company and frequently also alleges defendants improperly included company stock as an investment option in the plan, all in violation of ERISA.
Plaintiff lawyers have been reasonably successful in surviving defendants’ Motions to Dismiss in these cases and then leveraging that success into relatively large settlements. For example, the cash component in some of the larger ERISA settlements, most of which came after the initial Motion to Dismiss phase of the litigation and without the benefit of discovery, include:
· Royal Dutch/Shell $90 million
· Enron $85 million
· Global Crossing $79 million
· Lucent $69 million
· Williams Companies $55 million
· WorldCom $51 million
· Household Int’l. $46.5 million
· Dynegy $30.75 million
· AT&T $29 million
· CMS Energy $28 million
· HealthSouth $25 million
· Morrison Knudson $21 million
· McKesson HBOC $18.2 million
Because of plaintiffs’ successes to date, this type of litigation is now a permanent fixture in the array of lawsuits brought against companies and their management. Based on the size of many of the settlements, these lawsuits are no longer considered “tagalong” suits but independent “stock drop” suits which deserve special attention.
While relatively few of these cases have been decided on their merits, and while the law surrounding these cases is still largely undeveloped, some recent developments should give some measure of hope to defendants who are unwilling to surrender to early and usually unsupportable settlement demands.
1. The US Airways Decision
Following a six-day bench trial, the Federal District Court for the Eastern District of Virginia recently ruled in DiFelice v. U.S. Airways, Inc., Case No. 1:04cv889 (E.D. Va. June 26, 2006), that US Airways and the trustee of its 401(k) plan did not breach their ERISA fiduciary duties by continuing to allow the stock of its parent company, US Airways Group, Inc. (“USAG”), to remain an investment option in the Plan while both US Airways and USAG were in grave financial condition and eventually subjected to bankruptcy protection.
The case was filed on behalf of participants in US Airways’ 401(k) Savings Plan against US Airways and the Plan’s directed trustee. Plaintiffs alleged that defendants breached their fiduciary duties by (i) failing to provide complete and accurate information to Plan participants regarding investments in USAG stock, and (ii) including USAG stock as an investment option in the Plan in light of USAG’s dire financial condition. Like many cases, the court denied defendants’ Motion to Dismiss based on the liberal pleadings test. However, after full discovery defendants filed a Motion for Summary Judgment based on the actual facts in the case. The court granted the defendants’ Motion for Summary Judgment with respect to the claim alleging improper disclosures (DiFelice v. U.S. Airways, Inc., 397 F. Supp. 2d 758 (E.D. Va. 2005)), and the remaining claim relating to USAG stock being an imprudent investment option proceeded to trial.
After trial, the court rejected plaintiffs’ argument that the defendants should be liable simply because the USAG stock was a too risky investment. Rather, the appropriate measure of review, according to the court, was based on a “portfolio management theory,” in which an investment should not be judged by its individual risk and return characteristics, but by its contribution to the risk and return of a portfolio of investments. The court recognized that the risks facing US Airways and USAG were publicly disclosed and reflected in the company’s stock price. According to the court, because investors who assume greater risk are compensated for that risk with the possibility of greater returns, the price of USAG shares gave participants the opportunity to realize a potential return far in excess of other Plan options. Therefore, the inclusion of a high-risk, high-yield investment option amongst other investment options was not imprudent so long as defendants provided Plan participants with sufficient investment options and information necessary to construct a diversified portfolio—which the court found occurred here.
The court also held that the evidence at trial supported the conclusion that Plan fiduciaries adequately monitored the suitability of the USAG stock as an investment option. Although US Airways was designated as the Plan administrator, US Airways delegated its authority to select, monitor, and remove investment options to a Pension Investment Committee, comprised of various officers of the company. The Investment Committee was responsible for the Plan’s investment policy and options, and was vested with the duty to monitor the prudence of each investment option. According to the court, the Investment Committee formally considered at several meetings the prudence of retaining the option to purchase USAG stock, its members were well aware of US Airways’ financial conditions and prospects, it retained outside legal counsel to opine on the retention of USAG stock, and it appointed an independent fiduciary to exercise US Airways’ fiduciary responsibilities when it announced a possible restructuring. The court concluded that the US Airways’ and its Investment Committees’ actions demonstrated a thorough consideration of USAG stock throughout the class period. Accordingly, the court held that plaintiffs had failed to demonstrate procedural or substantive imprudence.
The district court’s ruling, which is now on appeal, is important to defendants, both in terms of being the first ERISA “stock drop” case to be tried and the context in which it was decided. Despite being on the brink of bankruptcy, US Airways continued to offer USAG stock as a plan investment option. USAG stock was not removed as an investment option until one day after US Airways filed bankruptcy, by which time the stock was worthless. Notwithstanding those somewhat troubling facts, the court found the defendants to have acted consistent with their ERISA duty of prudent investment. Fiduciaries whose company’s stock fund merely experiences a partial or temporary, and not complete, loss of value, would have an even stronger case that their continued offering of company stock was not imprudent, provided the plan fiduciaries perform the same level of diligent analysis as occurred in the U.S. Airways case.
In addition, unlike some cases in which employer stock is “hard-wired” into the plan, the Plan’s named fiduciary had the discretion to select or remove USAG stock as a plan option. Thus, the US Airways decision should be even more helpful to defendants where the plan dictates that company stock remain as a plan option.
2. Other Favorable Decisions
Defendants in ERISA stock drop cases are also starting to obtain some favorable rulings either before trial or occasionally before expensive discovery occurs. Although Motions to Dismiss based on the relatively lax pleading standards applicable to these types of cases are usually unsuccessful, defendants have recently been somewhat more successful with Motions for Summary Judgment (which are filed after discovery and are based on undisputed facts). However, defendants usually have to endure long and expensive discovery before they can file a successful Motion for Summary Judgment.
Occasionally, defendants are also successful in defeating plaintiffs’ motion for class certification. Defendants typically argue the claims by each plan participant who would be a member of the purported class are sufficiently dissimilar factually that each participant should be required to separately prove his or her claim. By denying plaintiffs’ motion for class certification, a court drastically reduces the defendants’ exposure and effectively terminates the litigation in most instances.
B. Cash Balance Conversion Cases
Beginning in the mid-1990’s, an increasing number of companies transitioned from a traditional pension plan, which pays benefits based on an employee’s final average compensation, to a cash balance plan, under which an employee is paid benefits based on a compensation credit plus interest. Due to the cash balance plan’s interest component, workers who are near retirement at the time of the conversion necessarily receive less than they would have received under the traditional benefits formula. Not surprisingly, those older workers have filed class action lawsuits against their employers and plan administrators alleging, among other things, the cash balance plan violates ERISA’s anti-discrimination provisions.
An important decision in one of these cash balance plan class actions was recently issued by the Seventh Circuit Court of Appeals in Cooper v. IBM Personal Pension Plan, No. 05-3599 (7th Cir. August 7, 2006). The litigation was filed on behalf of participants in the IBM Personal Pension Plan who alleged that IBM’s conversion of that Plan to a cash balance plan violated ERISA’s anti-discrimination provisions. Writing for a unanimous panel, Judge Easterbrook recognized that “[a]ll terms of IBM’s plan are age-neutral” because every employee receives the same “pay credit” and the same “interest credit” per annum. ERISA is not violated simply because younger employees receive interest credits for more years than older employees, thereby increasing the benefits payable to younger employees at the time of retirement. According to the court, the fact that a younger employee, with more time left before retirement, would be generally entitled to larger retirement payments than an older employee is merely a function of the time value of money and “treat[ing] the time value of money as age discrimination is not sensible.”
The Seventh Circuit opinion, which is a broad endorsement for the legality of cash balance plans, reversed a highly-publicized district court decision which found such plans structurally deficient under ERISA. Indeed, following the district court’s decision, IBM and a number of other companies eliminated their cash balance plans for new workers. Based on this new decision and a provision in the recently enacted Pension Protection Act of 2006, which validates cash balance plans and other hybrid plans, the popularity of cash balance plans may return.
However, from a litigation perspective, the Pension Protection Act provision only applies to cash balance plans created after the effective date of the Act. For pre-existing plans, the wisdom and applicability of the IBM decision will be further litigated in other courts for the foreseeable future. For example, the District Court for the Southern District of New York in J.P. Morgan Chase Cash Balance Litigation, No. 06 Civ. 732 (October 30, 2006), recently ruled that cash balance plans were age discriminatory, rejecting the primary basis for Judge Easterbrook’s holding.
C. Excessive Fee Cases
The newest variety of ERISA class action lawsuits was recently filed against nearly a dozen companies and their fiduciaries arising out of their alleged mismanagement of fees charged by plan service providers. The initial wave of these cases was filed by the same law firm beginning in September 2006.
Plaintiffs in these cases contend that fees and expenses paid by the plans, and borne by plan participants, were unreasonable and excessive, were not disclosed to Plan participants, and were not incurred solely for the benefit of the plans and their participants. In particular, plaintiffs allege that plan fiduciaries breached their ERSIA fiduciary duties by causing or allowing the plans to be charged excessive fees, either through excessive direct charges or indirect “revenue-sharing” charges between plan service providers and mutual funds held by the plans. Plaintiffs contend that, under those “revenue-sharing” relationships service providers are indirectly compensated by plan participants based on the value of plan assets rather than the actual value of the services rendered.
While it is too early to predict plaintiffs’ ability to successfully prosecute these new claims, it appears the defendants’ primary exposure in most of these cases will be defense costs and a modest settlement amount since provable damages should not be too great in most instances. However, as evidenced by plaintiff’s initial successes in ERISA stock drop cases, one should not underestimate the ability of the plaintiffs to create perceived liability exposure and to leverage that perceived exposure in meaningful settlements.