The United States District Court for the Northern District of Illinois held on Monday that Baxter International Inc. did not breach its fiduciary duties when it offered its stock in the company's tax code Section 401(k) plan at a time when the stock price was dropping (due to the company's failure to meet earnings projections). The Court's decision in Rogers v. Baxter International Inc., N.D. Ill., No. 04 C 6476 (N.D. Ill.) is significant because unlike other “stock-drop” cases -- where courts applied a “presumption of prudence” standard -- to dismiss fiduciary breach claims, the Court here based its decision (for the most part) on the safe harbor provision of ERISA Section 404(c) of the Employee Retirement Income Security Act.
The case history is quite long. The action, brought by a Baxter employee and plan participant, stems from Baxter's announcement in July 2002 that it had inflated its expected earnings, which caused Baxter's stock price to drop sharply. The employee sued Baxter, the plan's administrative and investment committees, and several individuals including two chief financial officers and two former chief executive officers. In his lawsuit, the employee alleged that the defendants breached their fiduciary duties by: (1) failing to diversify investments and by selecting Baxter stock as an investment option when the defendants knew or should have known the price was inflated, (2) imprudently investing in Baxter common stock and wrongfully presenting Baxter stock as an investment alternative, (3) making material misrepresentations and nondisclosures, and (4) “dividing loyalty” by engaging in a scheme to artificially inflate the price of Baxter's stock so as to allow executives to benefit in the form of higher stock options. The defendants filed a motion to dismiss, which the Court denied in February 2006. The Court subsequently certified the relevant claims as class action claims. The defendants filed an interlocutory appeal to the United States Court of Appeals for the Seventh Circuit, which appeal was denied, and the Seventh Circuit sent the case back to the district court.
The defendants subsequently filed a motion for summary judgment, arguing that their 401(k) plan qualified as an ERISA Section 404(c) plan, thus relieving the plan's fiduciaries of liability. Section 404(c) exempts defined contribution pension plan fiduciaries from liability if the plan meets five requirements. Those requirements are that the plan (1) provide for individual accounts, (2) allow participants the opportunity to exercise control over their accounts, (3) provide participants with the opportunity to choose from a broad range of investment alternatives, (4) give participants sufficient information to make informed investment decisions, and (5) provide additional safeguards if the plan offers qualifying employer securities. The Court determined that Baxter's tax code Section 401(k) plan met the requirements of an ERISA Section 404(c) plan, thus exempting the plan's fiduciaries from liability. In granting Baxter's motion for summary judgment, the court found that Baxter had satisfied Section 404(c) by providing participants with sufficient information to allow them to make informed decisions about their investment in Baxter stock. The court also found significant the fact that, plan participants, and not the plan fiduciaries, directed investment of plan assets. According to the Court, “[b]y providing Plan participants and beneficiaries with the requisite control over their accounts (in addition to the requisite information and range of investment alternatives) to satisfy the safe harbor defense, defendant fiduciaries ceded control over the assets in each individual Plan participant's account to each participants." In so doing, the Court noted, the defendant fiduciaries ceded responsibility for decisions regarding how those assets would be invested and agreed to follow participants' investment instructions.
The Court also disposed of the employee's argument that ERISA Section 404(c) did not absolve the defendants from liability with respect to his claim that the plan violated ERISA by acquiring and holding more than 10 percent of the plan assets in Baxter stock. According to the Court, the "10 percent claim" and the applicability of the safe harbor defense hinged on who “caused” the plan to hold more than 10 percent of its assets in Baxter stock. The court found it was the participants, and not the Baxter defendants, who caused the plan to hold more than 10 percent of its assets in company stock because the investments were made by the participants. The Court noted that "[b]ecause the fiduciary is obligated to comply with investment instructions, the Department of Labor has determined that the safe harbor shields a fiduciary from an individual participant's concentration of all of his account assets in a single stock, ... even though that concentration of assets in a single stock might be imprudent if the fiduciary had chosen to do so in exercise of its discretion." The Court further noted that "[t]here is no indication that the Department of Labor interprets the safe harbor differently if several participants decide to make the same non-diversified investment so that a large percentage of plan assets would be invested in a single stock.”
The case history is quite long. The action, brought by a Baxter employee and plan participant, stems from Baxter's announcement in July 2002 that it had inflated its expected earnings, which caused Baxter's stock price to drop sharply. The employee sued Baxter, the plan's administrative and investment committees, and several individuals including two chief financial officers and two former chief executive officers. In his lawsuit, the employee alleged that the defendants breached their fiduciary duties by: (1) failing to diversify investments and by selecting Baxter stock as an investment option when the defendants knew or should have known the price was inflated, (2) imprudently investing in Baxter common stock and wrongfully presenting Baxter stock as an investment alternative, (3) making material misrepresentations and nondisclosures, and (4) “dividing loyalty” by engaging in a scheme to artificially inflate the price of Baxter's stock so as to allow executives to benefit in the form of higher stock options. The defendants filed a motion to dismiss, which the Court denied in February 2006. The Court subsequently certified the relevant claims as class action claims. The defendants filed an interlocutory appeal to the United States Court of Appeals for the Seventh Circuit, which appeal was denied, and the Seventh Circuit sent the case back to the district court.
The defendants subsequently filed a motion for summary judgment, arguing that their 401(k) plan qualified as an ERISA Section 404(c) plan, thus relieving the plan's fiduciaries of liability. Section 404(c) exempts defined contribution pension plan fiduciaries from liability if the plan meets five requirements. Those requirements are that the plan (1) provide for individual accounts, (2) allow participants the opportunity to exercise control over their accounts, (3) provide participants with the opportunity to choose from a broad range of investment alternatives, (4) give participants sufficient information to make informed investment decisions, and (5) provide additional safeguards if the plan offers qualifying employer securities. The Court determined that Baxter's tax code Section 401(k) plan met the requirements of an ERISA Section 404(c) plan, thus exempting the plan's fiduciaries from liability. In granting Baxter's motion for summary judgment, the court found that Baxter had satisfied Section 404(c) by providing participants with sufficient information to allow them to make informed decisions about their investment in Baxter stock. The court also found significant the fact that, plan participants, and not the plan fiduciaries, directed investment of plan assets. According to the Court, “[b]y providing Plan participants and beneficiaries with the requisite control over their accounts (in addition to the requisite information and range of investment alternatives) to satisfy the safe harbor defense, defendant fiduciaries ceded control over the assets in each individual Plan participant's account to each participants." In so doing, the Court noted, the defendant fiduciaries ceded responsibility for decisions regarding how those assets would be invested and agreed to follow participants' investment instructions.
The Court also disposed of the employee's argument that ERISA Section 404(c) did not absolve the defendants from liability with respect to his claim that the plan violated ERISA by acquiring and holding more than 10 percent of the plan assets in Baxter stock. According to the Court, the "10 percent claim" and the applicability of the safe harbor defense hinged on who “caused” the plan to hold more than 10 percent of its assets in Baxter stock. The court found it was the participants, and not the Baxter defendants, who caused the plan to hold more than 10 percent of its assets in company stock because the investments were made by the participants. The Court noted that "[b]ecause the fiduciary is obligated to comply with investment instructions, the Department of Labor has determined that the safe harbor shields a fiduciary from an individual participant's concentration of all of his account assets in a single stock, ... even though that concentration of assets in a single stock might be imprudent if the fiduciary had chosen to do so in exercise of its discretion." The Court further noted that "[t]here is no indication that the Department of Labor interprets the safe harbor differently if several participants decide to make the same non-diversified investment so that a large percentage of plan assets would be invested in a single stock.”
