(Article from Securities Law Alert, November 2015)
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On November 10, 2015, the Sixth Circuit applied a “prudent-process standard” in considering ERISA claims brought by investors in the GM Common Stock Fund, an employee stock ownership plan (“ESOP”), against State Street Bank, the ESOP’s fiduciary. Pfeil v. State Street Bank and Trust Company, 2015 WL 6874769 (6th Cir. 2015) (Boggs, J.). The court found that plaintiffs had “failed to demonstrate a genuine issue of material fact concerning the methods of State Street’s investigation of the merits of investing in GM, or the appropriateness of those methods,” and therefore affirmed the district court’s grant of summary judgment to State Street.
The Sixth Circuit further held that under the Supreme Court’s decision in Fifth Third Bancorp v. Dudenhoeffer, 134 S. Ct. 2459 (2014), “a plaintiff claiming that an ESOP’s investment in a publicly traded security was imprudent must show special circumstances to survive a motion to dismiss.”
Background
The purpose of the GM Common Stock Fund “was to enable [p]articipants to acquire an ownership interest in General Motors.” It was one of various investment options offered to GM employees.
State Street, in its capacity as fiduciary of the GM Stock Fund, had in place “a formal, three-tiered structure and process for the exclusive purpose of monitoring and evaluating” the GM Stock Fund, as well as the other plans under State Street’s management. Between January 2008 and March 31, 2009, GM’s three committees discussed GM stock in the context of the GM Stock Fund 58 times. Notwithstanding “[e]vents in 2008 [that] imperiled GM’s ability to continue as a going concern,” State Street’s Stock Review Committee “actively decided not to stop buying [GM stock for the GM Stock Fund], let alone to sell.” However, the Stock Review Committee did “decide[ ] to maintain a level of internal scrutiny on the investment.”
It was not until November 2008 that State Street ceased buying GM stock for the GM Stock Fund. On March 31, 2009, State Street made the decision to divest the plan of GM stock; that process was completed by April 24, 2009.
In June 2009, plaintiffs brought suit alleging that State Street had failed to manage the GM Stock Funds’ assets prudently, as required under ERISA. In April 2014, the Eastern District of Michigan granted summary judgment to State Street based on the presumption of prudence set forth in Moench v. Robertson, 62 F.3d 553 (3d Cir. 1995). Two months later, the Supreme Court in Dudenhoeffer held that ESOP fiduciaries are not entitled to a special presumption of prudence. The Dudenhoeffer Court stated that “the same standard of prudence applies to all ERISA fiduciaries, including ESOP fiduciaries, except that an ESOP fiduciary is under no duty to diversity the ESOP’s holdings.”
Following the Supreme Court’s decision in Dudenhoeffer, plaintiffs appealed the district court’s grant of summary judgment.
Sixth Circuit Applies a “Prudent-Process” Standard to State Street’s Investment Decisions
On appeal, the Sixth Circuit explained that in light of Dudenhoeffer, it could not apply a presumption of prudence to State Street’s investment decisions. The Sixth Circuit instead “evaluate[d] State Street’s actions according to a prudent-process standard.” The court stated that this test “‘focus[es] . . . on whether the fiduciary engaged in a reasoned decision-making process, consistent with that of a prudent man acting in a like capacity’” (quoting Tatum v. RJR Pension Inv. Comm., 761 F.3d 346 (4th Cir. 2014)). The Sixth Circuit noted that “‘courts have readily determined that fiduciaries who act reasonably – i.e., who appropriately investigate the merits of an investment decision prior to acting – easily clear this bar” (quoting Tatum, 761 F.3d 346 (emphasis added)).
Applying this “prudent-process” standard, the Sixth Circuit found that “State Street [had] discussed GM stock scores of times during the class period.” The court pointed out that “State Street’s Independent Fiduciary Committee [had] held more than forty meetings during the [c]lass [p]eriod of less than nine months to discuss whether to retain GM stock.” In addition, State Street had sought the advice of outside legal and financial advisors in making its investment decisions. Given what the court found to be “the prudent process in which State Street engaged,” the Sixth Circuit determined that plaintiffs had “failed to demonstrate a genuine issue as to whether State Street [had] satisfied its duty of prudence.”
Significantly, the Sixth Circuit found “the mere fact that GM’s stock value decreased after certain dates” on which State Street continued to hold GM stock did not “affect [the court’s] judgment.” The court emphasized that “State Street’s decisions were not imprudent or unreasonable simply because it could have made a different decision in response to GM’s financial difficulties.” The Sixth Circuit explained that it had to “evaluate the prudence or imprudence of State Street’s conduct as of ‘the time it occurred,’ not ‘post facto.’”
Sixth Circuit Holds That a Plaintiff Asserting ERISA Claims Based on the Alleged Imprudence of an Investment in a Publicly-Traded Security Must Show “Special Circumstances” to Survive a Motion to Dismiss
In Dudenhoeffer, the Supreme Court stated that “where a stock is publicly traded, 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.” The Court explained that “a fiduciary usually is not imprudent to assume that a major stock market . . . provides the best estimate of the value of the stocks traded on it that is available to him.”
Relying on this language from the Dudenhoeffer opinion, the Sixth Circuit in Pfeil held that “a plaintiff claiming that an ESOP’s investment in a publicly traded security was imprudent must show special circumstances to survive a motion to dismiss.” The court noted that the Southern District of New York recently reached the same conclusion in In re Citigroup ERISA Litig., 2015 WL 2226291 (S.D.N.Y. May 13, 2015) (interpreting Dudenhoeffer to find that “fiduciaries may rely on the market price, absent any special circumstances affecting the reliability of the market price”). The Sixth Circuit reasoned that “[t]his rule accords with Modern Portfolio Theory (MPT),” which “rests on the understanding that organized securities markets are so efficient at discounting securities prices that the current market price of a security is highly likely already to impound the information that is known or knowable about the future prospects of that security.”
Applying this “special circumstances” requirement, the Sixth Circuit deemed “implausible” plaintiffs’ contention that “State Street’s investment strategy [had] failed to function as a prudent process [because] it did not recognize ‘that the market was over- or undervaluing’ GM common stock.” The court found that plaintiffs had “failed to show a special circumstance such that State Street should not have relied on market pricing” of GM stock in making its investment decisions.
The Sixth Circuit concluded that “State Street’s actions were not actionably imprudent,” and affirmed the district court’s grant of summary judgment to State Street.
Judge White, Dissenting, Expresses Her View That an ESOP Fiduciary’s Investment Decisions May Be Actionably Imprudent Even If the Fiduciary Conducted a Reasonable Investigation
In a dissenting opinion, Judge Helene N. White stated that “[o]ne can concede that the market is generally efficient in pricing stocks without concluding that all decisions to buy, sell or hold are therefore prudent.” She wrote that “the fact that a stock’s price accurately reflects the company’s risk of failing does not mean that it is prudent to retain the stock as that possibility becomes more and more certain and buyers are willing to pay less and less for a stake in the upside potential.”
With respect to the majority’s finding that “the process employed by State Street was prudent as a matter of law,” Judge White stated that she “might agree were it not for the fact that [p]laintiffs [had] presented evidence that the decision makers were operating under an incorrect standard.” Judge White wrote that “[a] necessary part of a prudent decision-making process is the yardstick applied to the information yielded by prudent investigation and consideration.”