As you are probably aware, one of the fastest growing – and potentially lucrative – categories of class action lawsuits is ERISA litigation related to company stock funds in retirement plans.  These lawsuits are usually brought after a substantial decline in the trading value of shares, and so are often referred to as "stock drop" cases.

For sponsors of retirement plans that allow participants to invest in company stock, there are several steps that can be taken to protect the company against a stock drop claim, including the following:

  1. Amend the Plan and Trust Documents to Require a Company Stock Fund Investment. Although retirement committees like to have a great deal of flexibility in choosing plan investment options, such committees generally do not want this flexibility with respect to a company stock fund.  Instead, it is preferable for the decision of whether to offer a company stock fund to be made by the plan sponsor, so that the committee is not obliged to determine whether a company stock fund investment is a prudent investment option.  Therefore, review your plan and trust documents and consider amending them if necessary to clarify that the retirement committee must offer a stock fund investment.
  2. Limit Company Stock Fund Investments. Many plans do not place a limit on the percentage of a participant's account that can be invested in the company stock fund. The sponsors of these plans should consider placing percentage limits on participants' stock fund investments to encourage diversification (25% of a participant's account is a common limit).  These actions help avoid the unfortunate circumstance where a participant invests heavily in company stock and, when the stock value declines substantially, the participant's retirement savings are lost.If a company wishes to impose a percentage cap for investment in the company stock fund, it may be advisable to grandfather participants whose company stock fund investments currently exceed the cap, so that the company would not be forcing these participants to sell company stock. Going forward, those participants would not be allowed to increase their company stock fund investments.  The alternative – forced sale of stock exceeding the cap – poses some legal and business risk.  Such mandatory sales can actually give rise to breach of fiduciary duty claims on their own where the stock price rises significantly after the forced sale, in addition to causing potential morale problems.
  3. Remove "True Insiders" from the Plan Investment Committee.  In many stock drop cases against individual retirement committee members, the plaintiffs argue that the committee members knew inside information about the company's financial state which they had a fiduciary obligation under ERISA to share with plan participants (even if they were prohibited under federal securities law from disclosing this information). Companies can alleviate this concern somewhat by removing "true insiders" from the plan investment committee. For these purposes, a true insider is a person at the company who is regularly involved in and has knowledge of top-level company decisions and information.  There are usually only a few true insiders at any company.By removing the true insiders from the investment decisions, a company can potentially avoid a situation where a committee member has material information that would affect the company's stock price, but which he or she is prohibited from sharing with fellow committee members or plan participants.  In other words, committee members would not be faced with competing fiduciary obligations.
  4. Hire a Discretionary Trustee for the Company Stock.  Most retirement plans have a "directed trustee" that only acts upon direction from the company or retirement committee.  However, companies with company stock fund investment options in their retirement plans should consider hiring a discretionary trustee for the company stock.  A discretionary trustee will actively monitor the stock based on public filings and, if the trustee has concerns about the company on a "going concern" basis, can even sell the company stock.  A discretionary trustee will usually facilitate the voting of company shares, including reviewing all proxies and developing a process for the pass-through vote.

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