ERISA Self-Dealing Lawsuit Calls SEI Plan ‘Captive Customer’

SEI Investments Company is the latest investment services provider to face an Employee Retirement Income Security Act (ERISA) lawsuit making allegations of self-dealing.

The lead plaintiff in Stevens v. SEI Investments Company, filed in the U.S. District Court for the Eastern District of Pennsylvania, is an employee of the firm and a participant in the SEI Capital Accumulation Plan. Named as defendants are SEI as a whole, the defined contribution (DC) plan’s investment and administration committees, and some 30 individual fiduciaries.

The complaint makes a variety of claims about widespread conflicts of interest in the DC plan industry, suggesting that financial services companies such as SEI deserve extra scrutiny.

“For financial service companies like SEI, the potential for imprudent and disloyal conduct is especially high, because the plan’s fiduciaries are in a position to benefit the company through the plan by using proprietary investment products that a disinterested fiduciary would not choose,” the complaint states.

According to the complaint, the defendants offer “only designated investment options that generate fees for SEI and its affiliates and treat the plan as a captive customer of SEI in order to prop up SEI-affiliated investment products and advance SEI’s business objectives.”

The complaint further states that SEI investment products “are not competitive in the marketplace.”

“Participants would have been better served if defendants had investigated and retained non-proprietary alternatives,” the complaint states.

The complaint acknowledges the fact that inclusion of proprietary investment options in a 401(k) plan lineup is not per se imprudent or disloyal. But the lead plaintiff says defendants did not meet their fiduciary obligations to regularly evaluate each investment option within the plan on its merits relative to alternative available options.

“Because SEI-affiliated investment options within the plan have consistently generated lower net returns for investors than investment options with the same objectives available outside of SEI, there was no reason other than self-interest for defendants to offer solely SEI-affiliated options within the plan,” the complaint states. “Indeed, no other defined contribution plan in the country with $250 million in assets or more consists exclusively of SEI-affiliated investment products, and the vast majority of similarly-sized plans do not include any SEI-affiliated investments.”

According to the text of the complaint, SEI’s alleged prioritization of its own business interests over the interests of participants and beneficiaries of the plan constitutes a breach of the fiduciary duties of prudence and loyalty in violation of 29 U.S.C. Section 1104.

As a result of defendants’ alleged violations of ERISA, the lawsuit suggests the plan has suffered millions of dollars in losses.

Digging into the counts

Much of the text of the complaint is spent discussing general characteristics of the DC retirement plan industry. According to the lead plaintiff, it is relevant to observe that financial services companies possess no special insight that allows them to identify which of their own funds are likely to outperform.

“Though financial companies may favor retention of their own funds, this favoritism has empirically resulted in worse performance,” the lawsuit states. “A study of third-party administrators shows that plans administered by asset management firms tend to have the lowest net returns, and that those lower returns are attributable to reliance on proprietary funds.”

Detailed in the text of the complaint are three specific counts, one having to do with a breach of the duties of loyalty and prudence, and two having to do with failures in monitoring.

These counts are based on a core allegation that, despite SEI’s inability to generate competitive long-term returns or attract other large defined contribution plan investors, defendants have exclusively selected and retained SEI-affiliated funds within the plan. According to the lead plaintiff, a prudent and loyal fiduciary would not have managed the plan’s investment lineup in this manner.

“Defendants offered participants 19 SEI funds and SEI stock as designated investment alternatives as of the end of 2011,” the complaint states. “Since then, defendants have only added more SEI-affiliated funds, and have not subtracted any options. One addition, the PIMCO Stable Income Fund, is not branded with the ‘SEI’ name, but SEI is a partner in the management of the fund, and receives fees from the fund. The continuity of the menu and strict reliance on SEI-affiliated products (despite their low performance rankings) suggests that defendants have selected and retained SEI-affiliated funds by default, in lieu of conducting an impartial investigation of options available in the marketplace.”

As further evidence of a flawed fiduciary process, the lead plaintiff points out that the plan’s two largest holdings (the SEI Large Cap Fund and the SEI Small Cap Fund), which accounted for approximately 30% of the plan’s total assets, underperformed their stated benchmarks over the prior one-, three-, five-, and 10-year periods. According to the lawsuit, these funds employ common investment strategies, and numerous comparable non-proprietary alternatives that met or exceeded their benchmarks over the same periods while charging lower or comparable fees were available to defendants.

The lawsuit makes the following allegations regarding the offering of SEI-brand target-date funds within the plan: “Defendants’ judgment also has been compromised with respect to target-date funds. When SEI initially launched its proprietary target-date funds, the funds were promptly added to the plan, despite having no performance records. Since then, they have gained little traction in the marketplace. This has caused SEI to depend on the plan to prop up the funds; indeed, the plan has accounted for 27% to 31% of the total assets in SEI’s target-date funds since 2012. An impartial and prudent fiduciary in defendants’ position would have investigated other options, and would not have retained these proprietary target-date funds.”

The full text of the complaint is available here.