Seyfarth synopsis: The Second Circuit reversed dismissal of an ERISA stock drop class action finding plaintiff alleged enough to plausibly show that disclosure of alleged corporate problems would not have done more harm than good and sketching a treasure map for ERISA plaintiffs seeking to recover for 401(k) plan losses.

By Ian H. Morrison and Michael W. Stevens

Many thought ERISA stock drop claims were doomed by the Supreme Court’s 2014 decision in Fifth Third Bancorp v. Dudenhoeffer, and given court rulings since that decision they largely were. The Second Circuit may have reversed that trend in a recent decision.

In Jander v. Retirement Plans Committee of IBM et al., No. 17-3518 (2d Cir. Dec. 10, 2018), investors in the IBM Company Stock Fund, an ESOP contained within the company’s 401(k) plan, claimed that the plan fiduciaries violated the duty of prudence by continuing to invest ESOP funds in IBM common stock, despite knowing that IBM’s microelectronics business was losing money, and was allegedly overvalued in company disclosures. The troubled division was losing $700 million annually, and eventually had to be sold on a write-down, causing IBM’s stock to fall by $12 per share, the complaint alleges.

The district court dismissed the complaint, finding plaintiffs had not pleaded facts showing the fiduciaries could not have reasonably concluded that available alternatives, such as disclosing the alleged difficulties, halting investment in IBM stock, or investing in hedging investments, would not have caused more harm than good.

The Second Circuit reversed. The Second Circuit analyzed Dudenhoeffer, and standards of pleading for a breach of the duty of prudence. The Second Circuit focused on the difference between whether a plaintiff must plead merely that an “average” fiduciary “would not” have viewed available alternatives as more likely to do harm than good to a plan, or a more stringent requirement to plead that “any” fiduciary “could not” have viewed the available alternatives as more likely to harm than help.

The Court declined to weigh in on the difference, however, because it found that the plaintiffs had adequately pleaded a breach of the duty of prudence under either standard. The Court recited several specific factual allegations, such as the fiduciaries’ alleged knowledge of the supposedly artificial price inflation, their power to disclose the truth, and the negative impact of the failure to disclose on the reputation of the company’s management, that cumulatively satisfied the plaintiffs’ burden. Notably, the Court also focused on the allegation that the defendants knew that the eventual disclosure regarding the troubled division was inevitable, and therefore earlier disclosure would have been less harmful to stock price than later disclosure.

By not weighing in on which of the “harm versus help” standards apply, but extensively examining the adequacy of plaintiffs’ specific allegations, and repeatedly noting the district courts’ duty to construe inferences in plaintiffs’ favor on a motion to dismiss, the Second Circuit has given putative ERISA stock drop plaintiffs a roadmap to survive a motion to dismiss, something that has largely eluded them since 2014. ESOP fiduciaries take heed.