Southeastern Erisa Watch: Recent Decisions in the 4th and 11th Circuits

Executive Summary:  Court defines parameters of the duty of an ESOP plan fiduciary in “stock drop” case.
The 11th Circuit Court of Appeals has now defined the point at which an ESOP fiduciary could be deemed to have breached its fiduciary duties even when complying with the plan terms. Lanfear v. Home Depot, Inc., 2012 U.S App. Lexis 9321 (11th Cir. 2012). The Lanfear case involved Home Depot’s “FutureBuilder Plan” (which was both an EIAP and an ESOP plan). The Plan participants alleged that the fiduciaries knew that the Home Depot stock price was inflated due to an improper “chargeback” scheme by management at the Home Depot stores, and knew that the stock price would fall sharply when the wrongful chargeback scheme was discontinued. Thus, the participants alleged, the fiduciaries knew when the Home Depot stock was an imprudent investment, and should have discontinued investing Home Depot stock into the Plan.
The Lanfear Court explored Congress’ intent in its governance of ESOPs, providing retirement income to employees as well as encouraging employee ownership in the company in which they worked. The Court recognized that this inherent tug-of-war between the prudence of diversification (reducing risk) and investment in the company (increasing risk), was a conflict that “Congress commanded …, or at least permitted ….” As such, a plan fiduciary is exempt from its normal duty of diversification. ERISA 404(a)(2).

Here, the Plan’s fiduciaries’ duty of prudence was at issue. As is the nature of ESOPs, Home Depot’s Plan requires investment primarily in the company’s own stock, and in practice, the Plan’s fiduciaries invested exclusively in Home Depot stock. The fiduciaries argued that they were immune from liability, because they were in compliance with the terms of the Plan. The Lanfear Court rejected this argument: Because the Plan’s terms required investment primarily in the company’s stock, the fiduciaries had at least some discretion.

The question then became: At what point has a fiduciary abused its discretion in continued investment and holding of company stock? The Lanfear Court explored and rejected the two ends of the spectrum: A fiduciary’s actions should not be subject to scrutiny with every rise and fall of the stock market, nor should the standard be so deferential as to presume prudence unless the company was on the brink of financial collapse. Rather, following the Third Circuit and borrowing from trust law, the Court held that a fiduciary would be seen to have abused its discretion when it continued to invest in company stock at a time when it could not have reasonably believed that “continued adherence to the ESOP’s directions was in keeping with the settlor’s expectations of how a prudent trustee would operate it.” Quoting, Moench v. Robertson, 62 F 3d 553, 571 (3d Cir. 1995).

Against this backdrop, the Court dismissed Plaintiffs’ claim, finding that they had failed to allege facts that suggested circumstances under which the fiduciaries were compelled to diverge from the Plan’s terms in favor of divestiture of Home Depot stock.


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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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