Canada: Another Participant Challenge to Defined Benefit Plan Investments: Could Your Plan Defend its Investment Program?

The focus of U.S. litigation challenging plan investments has been 401(k) plans, but that may be changing. Defined benefit plan sponsors may have felt that they were immune to these types of claims because the funding rules require them to make up investment losses, but defined benefit plans are now becoming targets in class action litigation.

I recently wrote about an appellate decision permitting participants in the Weyerhaueser defined benefit plans to pursue a class action for equitable relief if they prevailed on their claims that the plans were disproportionately invested in risky alternative investments in violation of ERISA.

Now we have had another complaint seeking class certification, which challenges U.S. Bancorp's investment of 100% of its assets in equities from 2007 through 2010, allegedly causing the plan to lose over a billion dollars, as well as the way its security lending program was managed.  The U.S. Bancorp suit targets a large group of defendants, including the former investment adviser, the trustee, the members of the Compensation and Investment Committees and those members of the Board of Directors who were not on the committees, who allegedly failed to monitor the activities of the appointed fiduciaries.

What Happened Here?

The plan's investment manager, FAF Advisors, was a subsidiary of U.S. Bancorp. FAF not only invested 100% of plan assets in equities, but was said to have invested over 40% in its own mutual funds, which plaintiffs claim caused it to personally benefit from the use of plan assets by increasing its assets under management and making the funds more attractive to other investors. FAF is also alleged to have invested collateral from the plan's securities lending portfolio in low quality investments, including commercial paper backed by subprime mortgages.

As a result of the plan's investment program, its ERISA funded status went from 144% (i.e., there was a funding surplus) to 84% during the period in question. Plaintiffs charge violations of the duties of prudence, diversification and loyalty, and also maintain that the defendants caused the plan to engage in prohibited transactions. An interesting charge in the complaint is that U.S. Bancorp sought to maximize investment return and upside potential over minimizing the risk of loss because a higher return on assets flows through to earnings per share, increasing the per-share value of the company.

What Do the Plaintiffs Want?

The plaintiffs aren't seeking monetary damages, and don't allege that these ERISA violations put their pension payments in jeopardy. They are seeking equitable relief of the type the Weyerhaueser decision permitted its class to pursue. Specifically, the plaintiffs are demanding that the responsible fiduciaries –who are personally liable for losses resulting from breaches of fiduciary duty –make the plan whole for any losses resulting from the breaches, and disgorge any profits they made from the use of plan assets. The plaintiffs also want an independent fiduciary appointed to replace the current plan fiduciaries, or, failing that, an order preventing the plan from again engaging in these policies and directing the fiduciaries to properly review investments.

The Takeaways for Fiduciaries

The plaintiffs still have to obtain class certification and prove their case, but it is certainly unusual for a large plan such as U.S. Bancorp's to be invested only in equities. The defendants will probably answer that there are existing prohibited transaction class exemptions permitting investment in affiliated mutual funds and securities lending, but the exemptions have specific conditions and do not cover personal benefit from plan assets or using plan assets as "seed money" for new funds.

This is one to follow, but this lawsuit should serve as a wake-up call now to directors who may consider themselves absolved from pension responsibility because other fiduciaries have been appointed to handle investments.

Under ERISA, the directors always have supervisory responsibility that cannot be delegated away. Plan fiduciaries should also think carefully before pursuing non-traditional investment programs that do not include diversified asset classes and establishing programs that do not include independent advisors. Those will be red flags for participants and attorneys looking for future class action defendants.

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