On December 13, the Supreme Court granted certiorari in Fifth Third Bancorp v. Dudenhoeffer, No. 12- 751, to clarify whether plaintiffs asserting class action ERISA claims against ESOP fiduciaries, challenging plan investments in employer securities following a drop in the employer’s stock price, must overcome a “presumption of prudence” in order to survive a motion to dismiss under Fed. R. Civ. P. 12(b)(6). ERISA “stock drop” claims often accompany securities fraud class actions, and generally allege that ESOP plan fiduciaries breached their duties under ERISA by continuing to invest in employer securities -- or retaining them as an option for plan participants -- after investing in such securities had become “imprudent.” In Fifth Third Bancorp, the Court is expected to resolve a circuit split as to whether, and at what stage in a litigation, ESOP fiduciaries enjoy a presumption that continuing to invest plan assets in employer securities was reasonable (and hence prudent) under ERISA.
Unlike fiduciaries of traditional pension plans who must diversify investments of the plan, fiduciaries of an ESOP, an employee stock ownership plan, are exempted from this duty in the “acquisition or holding” of employer securities under ERISA Section 404(a)(2). See 29 U.S.C. § 1104(a)(2). ERISA imposes a “prudent person” standard of care on plan fiduciaries, and courts have applied that standard using a presumption that the fiduciaries’ decision to remain invested in employer securities was reasonable. The “presumption of prudence” for ESOP fiduciaries was first articulated by the Third Circuit nearly 20 years ago in Moench v. Robertson, 62 F.3d 553 (3d Cir. 1995). It has since been adopted by nearly every other circuit. Notably, the Second, Third, Fifth, Seventh and Eleventh Circuits have all held that the presumption applies at the pleading stage -- that is, on a motion to dismiss -- and that plaintiffs, in order to overcome it, must allege in their complaints that the employer faced “dire circumstances” such that its viability as a going concern was threatened. See, e.g., In re Citigroup ERISA Litig., 662 F.3d 128, 140 (2d Cir. 2011); Edgar v. Avaya, 503 F.3d 340, 349 (3d Cir. 2007); Kopp v. Klein, 722 F.3d 327, 339 (5th Cir. 2013); White v. Marshall & Ilsley Corp., 714 F.3d 980, 990-91 (7th Cir. 2013); Lanfear v. Home Depot, Inc., 679 F.3d 1267, 1281 (11th Cir. 2012).
However, the Sixth Circuit has departed from the majority of courts by refusing to apply the presumption of prudence at the pleading stage, and instead holding that it applies only at the evidentiary stage of a litigation. Moreover, the Sixth Circuit's formulation of the presumption only requires plaintiffs to prove that a prudent fiduciary acting under “similar circumstances” would have made a different investment decision for the plan’s assets -- a much less demanding standard than the “dire circumstances” test that most courts have adopted. The divergence in applying the presumption of prudence is significant because the Sixth Circuit rule, if followed, would expose ESOP fiduciaries to the expense, inconvenience and risk of engaging in discovery before they could avail themselves, at the summary judgment stage or at trial, of even a watered-down version of the presumption that they acted prudently.
Plaintiffs in Fifth Third Bancorp alleged that defendants breached their fiduciary duties under ERISA by continuing to offer company stock as a plan investment option during the financial crisis, when the stock experienced a significant decline, allegedly due to the company’s exposure to subprime mortgages. The district court dismissed plaintiffs’ claims, reasoning that the employer’s plan was an ESOP, and plaintiffs had not alleged facts sufficient to overcome the presumption under ERISA that the plan fiduciaries had acted prudently with respect to their decision to invest in employer stock. Dudenhoeffer v. Fifth Third Bancorp, 757 F. Supp. 2d 753 (S.D. Ohio 2010). The Sixth Circuit reversed and held that the presumption of prudence does not apply at the pleading stage. Dudenhoeffer v. Fifth Third Bancorp, 692 F.3d 410, 419-20 (6th Cir. 2012). In so ruling, the Sixth Circuit reaffirmed its deviation from the rulings of other federal appellate courts that have considered the question.
The Supreme Court granted certiorari to address the first of two questions presented by the Fifth Third Bancorp petitioners:
Whether the Sixth Circuit erred by holding that Respondents were not required to plausibly allege in their complaint that the fiduciaries of an ESOP abused their discretion by remaining invested in employer stock, in order to overcome the presumption that their decision to invest in employer stock was reasonable, as required by ERISA, and every other circuit to address the issue.
While the Solicitor General urged the Supreme Court to reformulate the question to consider whether the “presumption of prudence” should apply at any stage of the proceedings, the Court declined to do so. The Court also declined the defendants’ request for review of the Sixth Circuit’s holding that Securities and Exchange Commission filings become fiduciary communications for purposes of ERISA merely by virtue of their incorporation by reference into plan disclosure documents. The Supreme Court’s Fifth Third Bancorp decision is expected to provide important guidance on the availability and contours of the presumption of prudence defense in ERISA “stock drop” litigation, and clarify an area of the law in which there has been a diversity of views in the Courts of Appeals. Whatever the outcome, the case will have important implications for public companies and their directors and officers, as well as fiduciary liability insurance carriers, who may have exposure arising from ERISA claims for breach of fiduciary duty based on retirement plan investments in company stock. The Supreme Court is expected to hear arguments in Fifth Third Bancorp by mid-2014.