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Stock Suit Can’t Clear ‘Virtually Insurmountable’ Standard

Exxon Mobil has prevailed a second time in fending off a suit that had alleged it imprudently not only kept, but continued buying employer stock when officials knew a drop in value was imminent.

In this case, the plaintiffs had alleged that Exxon’s public statements about the company’s financial position were “materially false and misleading” because they failed to disclose that Exxon’s reserves had become impaired due to: (1) losses at Exxon’s Canadian Bitumen operations; (2) the proxy cost of carbon, which incorporated the future effects of global climate change; and (3) declining oil prices. This in a plan where Exxon stock represented the single largest holding, worth “approximately $10 billion.” The plaintiffs further alleged that the Exxon plan purchased at least $800 million of Exxon stock during the Class Period.

The court had previously dismissed the complaint “…because the Plaintiffs failed to meet the very high pleading standards established for this type of claim,” noting that they failed to “allege special circumstances that would make the market price unreliable” as a gauge of value, and that “the alternative actions proposed by Plaintiffs were not so clearly beneficial that a prudent fiduciary could not conclude that it would be more likely to harm the fund than to help it,” the standard established in Fifth Third Bancorp v. Dudenhoeffer, 573 U.S. ___, 134 S.Ct. 2459 (2014). By way of further clarification, Judge Keith P. Ellison of the U.S. District Court for the Southern District of Texas noted that this court in particular had previously determined that “courts have repeatedly found that early, corrective disclosures do not meet the alternative action standard of a duty of prudence claim.”

Turning his attention to the amended complaint (Fentress v. Exxon Mobil Corp., S.D. Tex., No. 4:16-cv-03484, 2/4/19), Judge Ellison noted that the major changes are that the plaintiffs no longer alleged as alternative actions (1) investing in a hedging option and (2) halting purchases of Exxon stock. Instead, he noted that they had “expanded upon their reasons for believing that Defendants’ positions at Exxon would require them to have knowledge of the misstatements,” and “added allegations, based on general economic principles, that corrective disclosures do not materially affect stock prices, and that Exxon’s stock drop was instead the result of the market punishing Exxon for its fraud.”

‘Refrain’ Refrain?

Plaintiffs argued that Defendants violated their duty to plan participants because they knew that Exxon’s stock prices were artificially inflated and yet continued to invest in Exxon stock. Plaintiffs allege one alternative action that Defendants should have taken: “Defendants should have sought out those responsible for Exxon’s disclosures under the federal securities laws and tried to persuade them to refrain from making affirmative misrepresentations regarding the value of Exxon’s reserves.”

In evaluating the applicability of those claims, Judge Ellison noted that generally, ERISA fiduciaries may prudently rely on the market price, but that when it is alleged that defendants violated the duty of prudence on the basis of non-public information, “the plaintiffs must plausibly allege an alternative action that the defendant could have taken that a prudent fiduciary in the same circumstances would not have viewed as more likely to harm the fund than to help it” – and that that alternative action must have been consistent with securities laws. All this a burden that Ellison acknowledged that the Fifth Circuit had said was “significant,” going on to note: “As this Court wrote recently, the Court ‘is not aware of any post-Amgen case in which a plaintiff has met this significant burden.’ The standard is ‘virtually insurmountable.’”

Silent ‘Screen’?

Ironically, the reality of the drop in the publicly traded stock price undermined the plaintiff’s argument here, with Judge Ellison explaining that in its prior ruling, the court found that “the risk that the stock price would drop, lowering the value of the stock already held by the fund, could have convinced a prudent fiduciary that publicly disclosing the negative information would do more harm than good to the fund.” As for the notion that convincing those touting Exxon’s virtues to be silent on the subject, Judge Ellison wrote “as other comparable companies made corrective disclosures, remaining silent may have communicated to market investors that Exxon was facing the same troubles, which would have had much the same outcome as a corrective disclosure.”

Ultimately, Judge Ellison determined that the plaintiffs here “still cannot meet the Fifth Circuit’s heightened pleading standard,” and that the Court cannot say that attempting to prevent Exxon’s alleged misrepresentations would have been “so clearly beneficial that a prudent fiduciary could not conclude that it would be more likely to harm the fund than to help it.”

Second ‘Story’

The court acknowledged what it called the “recent development in the Second Circuit” – the rare win for plaintiffs in cases like this – Jander v. Retirement Plans Comm. of IBM – but the court said it didn’t apply here, noting that that court concluded that “a prudent fiduciary in the Plan defendants’ position could not have concluded that corrective disclosure would do more harm than good.” As distinguishing factors, Judge Ellison observed that that court “found the following circumstances persuasive: (1) the defendants allegedly knew that the stock was ‘artificially inflated through accounting violations;’ (2) defendants had the power to make corrective disclosures to correct the price; (3) general economic principles suggest that the reputational damage to a company increases the longer a fraud continues; (4) the stock was traded in an efficient market; and (5) eventual disclosure was inevitable, because the business was being sold.”

Judge Ellison explained: “Here, the two arguments the Second Circuit appeared to find the most persuasive – that the fraud became more damaging over time and that the eventual disclosure was inevitable – do not apply,” in the latter case because “there was no major triggering event that made Exxon’s eventual disclosure inevitable.”

Dismissing the claim, Judge Ellison wrote that “Thus, Plaintiffs’ Second Amended Complaint does not show that a prudent fiduciary could not conclude that remaining silent could have resulted in a drop in stock prices that would have done more harm than good to the Plan,” and that “although Plaintiffs argue that the drop would have been minor and temporary, the Court has already rejected that argument as inappropriately relying on hindsight.”

All that said, he put some boundaries around his ruling, noting that “It does not decide whether Exxon or any of its affiliates engaged in false advertising, concealed negative financial or environmental information, or contributed to climate change,” but that rather it “decides only the issues raised by Defendants’ Motion to Dismiss the Second Amended Class Action Complaint in this ERISA action.”