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Prudent Process Preempts Prudence Presumption in Stock Suit

A plan fiduciary didn’t need a presumption of prudence to prevail in a company stock suit – but they did need a prudent process.

A recent decision by the Sixth Circuit affirmed the judgment of the trial court, holding that State Street, an independent fiduciary managing the company stock fund in the General Motors (GM) 401(k) plan, did not breach its fiduciary duty by continuing to maintain that investment during the months leading up to the automaker’s bankruptcy.

However, the appellate court’s decision was based on different grounds than the trial court’s, which had been based on the so-called “presumption of prudence” for investments in employer stock by an Employee Stock Ownership Plan (ESOP). That basis was rejected by the U.S. Supreme Court in the 1995 case of Moench v. Robertson, where a plan participant sued a plan committee for breaching its fiduciary duty based on its continued investment in employer stock after the employer’s financial condition “deteriorated.” In that case the Third Circuit affirmed the duty of prudence, but looked to ERISA’s diversification requirement and the allowances made for employer stock holdings in an employee stock ownership plan (ESOP), and found a rebuttable presumption that an ESOP fiduciary that invested plan assets in employer stock acted consistently with ERISA.

The Sixth Circuit noted (citing a ruling in another case) that even after the Supreme Court rejected the presumption in Dudenhoeffer, “…the duty of prudence “do[es] not prohibit a plan trustee from holding single-stock investments as an option in a plan that includes a portfolio of diversified funds,” going on to explain that, “…while courts no longer may presume that ESOP fiduciaries are prudent, the Dudenhoeffer court suggested that a correct 'understanding of the prudence of relying on market prices' may lead courts to a very similar result.”

Evaluating the fiduciary’s actions according to a prudent-process standard, the Sixth Circuit found that in the absence of special circumstances, relying on the market price of a publicly traded stock is generally prudent, going on to say that, “We interpret this to mean, and now hold, 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.” And, since the plaintiff here failed to show those special circumstances, the Sixth Circuit held for the fiduciary-defendant.

Worth noting is that the process employed by the plan fiduciary included a three-tiered process for monitoring and evaluating company stock funds, and 58 meetings during the relevant period to discuss the prudence of the stock investment — which was eventually divested, albeit after the time period involved in this litigation.

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