Employers that sponsor 401(k) plans allowing investments in company stock can breathe easier with the Second Circuit’s decisions today in Gray v. Citigroup Inc. and Gearren v. McGraw-Hill Cos. In both cases, the Court upheld in split decisions what has become known as the “Moench” presumption, which holds that a 401(k) fiduciary’s decision to allow plan investments in company stock is entitled to a “presumption of prudence,” even at the motion to dismiss stage. This ruling will make it more difficult for plaintiff class action attorneys to bring 401(k) “stock drop” cases against plan fiduciaries.
The Second Circuit’s ruling is not a surprise, for the Third, Fifth, Seventh and Ninth Circuits, as well as many district courts, have adopted some version of the ”Moench” presumption in 401(k) employer stock cases. But the various courts, including the First Circuit and the DOL, have disagreed, or at least declined to adopt that standard. (In Brown v. Medtronic, the Eighth Circuit left open whether to adopt the “Moench” presumption.) Following the declines in stock prices that financial institutions experienced in the recent subprime mortgage crisis, trial judges in the Southern District of New York split on the whether the “Moench” presumption applies, and it has been widely recognized that the Second Circuit’s decision ruling would either confirm or reshape the law’s direction.
In Citigroup (as well as the McGraw Hill case, which was decided in a companion per curiam decision), the putative class alleged that the company, its directors and officers, and its benefit committee members, breached fiduciary duties by failing to remove the company’s 401(k) plan’s company stock holdings when price of the Citigroup’s stock dropped 50 percent as a result of $30 billion in losses in connection with the collapse of the subprime mortgage markets. Recognizing, however, that these losses were a modest fraction of Citigroup’s $200 billion in market capitalization, the Court ruled that such allegations could not as a matter of law amount to the sort of “dire situation” that would cause the fiduciaries to have a duty to sell a plan’s company stock holdings. The fact that the plan documents required employer stock as an investment option also contributed to the ruling, though the majority warned that “hard wiring” the plan to mandate employer securities would not in itself be a panacea against a fiduciary claim. Notably, the Court followed a trend of cases holding making it easier to raise the “Moench” defense of a motion to dismiss before substantial discovery costs are incurred.
The dissent’s argument that the "Moench" standard represents an “alarming dilution of [ERISA] ... and a windfall for fiduciaries” may suggest that its opponents (includign the DOL) may try to fight another day, including before the Supreme Court, but for now, the Second Circuit’s ruling raises the bar for class action attorneys bringing 401(k) employer stock cases. Nevertheless, employers should ensure that the structure of their plans and review procedures meet the developing standards in this area.