A federal district court judge has dismissed a stock drop suit against Peabody Energy, finding that plaintiffs failed to meet the standards of such cases set forth in Fifth Third v. Dudenhoeffer. 

In a June 2015 complaint, and in a March 2016 amended complaint filed on behalf of participants in the Peabody Investments Corp. Employee Retirement Account; the Peabody Western-UMWA 401(k) Plan; and the Big Ridge, Inc. 401(k) Profit Sharing Plan and Trust, the plaintiffs allege plan officials breached their fiduciary duties by continuing to offer Peabody Stock as an investment option for the plans when it was imprudent to do so and by maintaining the plans’ pre-existing significant investment in Peabody Stock when it was no longer a prudent investment. 

According to the complaint, the fiduciaries knew or should have known that Peabody stock was imprudent as a retirement investment vehicle because of the “sea-change in the basic risk profile and business prospects of the company caused by the collapse of coal prices, the company’s deteriorating Altman Zscore—a financial formula commonly used by financial professionals to predict whether a company is likely to go into bankruptcy—which indicated that Peabody Energy was and is in danger of bankruptcy, an excessive increase in the company’s debt to equity ratio, and increased costs due to the ill-advised acquisition of Australian company Macarthur Coal Ltd.”

Plaintiffs posit two alternative actions that the defendants should have taken: “directed that all company and plan participant contributions to the company stock fund be held in cash rather than be used to purchase Peabody stock”; and “closed the company stock itself to further contributions and directed that contributions be diverted from company stock.”

U.S. District Judge Audrey G. Fleissig of the U.S. District Court for the Eastern District of Missouri noted that Dudenhoeffer held with respect to public information claims against employee stock ownership plan (ESOP) fiduciaries, that “allegations that a fiduciary should have recognized from publicly available information alone that the market was over- or undervaluing the stock are implausible as a general rule, at least in the absence of special circumstances . . . affecting the reliability of the market price as an unbiased assessment of the security’s value in light of all public information.”

Plaintiffs stated in the second amended complaint that withholding of the market projections from the public; objective criteria, such Peabody’s Z-Score predicting Peabody’s demise; Peabody’s overwhelming unserviceable” debt; and the defendants’ failure to properly investigate the continued prudence of Peabody Stock, individually and collectively, represent the kind of “special circumstances” contemplated by the Supreme Court in Dudenhoeffer.

Peabody did file a notice of bankruptcy in April 2016, but the defendants argue that an impending bankruptcy is not the type of “special circumstance” the Supreme Court had in mind in Dudenhoeffer. Public information that a company was headed to bankruptcy, the defendants argue, is the kind of information to which the market price would adjust. Similarly, according to Fleissig’s opinion, the defendants argue that Peabody’s Z-Score and debt load are just other pieces of public information that were incorporated into the stock price. They also argue a failure to investigate the continued prudence of investing in Peabody stock would not constitute a “special circumstance” under Dudenhoeffer because the extent to which the defendants monitored Peabody stock had no impact on its market price or the price’s reliability.

Fleissig said a close question is presented with respect to whether a company’s impending bankruptcy is a special circumstance contemplated by the Supreme Court, at the pleading stage. While striking down the presumption of prudence, the Supreme Court offered ESOP fiduciaries a different protection from meritless claims, namely a high standard for stating a claim. “But did the Supreme Court intend to set the standard so high as to preclude the kinds of “careening to bankruptcy” cases courts had found overcame the presumption?” Fleissig queried.

She concluded that the answer is yes. The Supreme Court specifically stated that the presumption, along with the exception for “careening to bankruptcy” cases, was not a good rule for weeding out meritless cases. While there is credible contrary authority, the weight of authority appears to agree with this conclusion. Fleissig cited In re 2014 RadioShack ERISA Litig., in which a district court held that a company’s “slide into bankruptcy” rendering its stock excessively risky was not a “special circumstance” under Dudenhoeffer. She also cited Pfeil v. State St. Bank & Trust Co., in which an appellate court held that a company’s “severe business problems that resulted, ultimately, in its bankruptcy” did not constitute a Dudenhoeffer special circumstance; explaining that “organized securities markets are so efficient at discounting securities prices that the current market price of a security is highly likely already to impound the information that is known or knowable about the future prospects of that security.”

Fleissig granted the defendants’ motion to dismiss the plaintiffs’ claim that defendants breached their duty of prudence under the Employee Retirement Income Security Act (ERISA) by retaining and continuing to purchase Peabody stock from December 14, 2012, onwards, in light of public information that established that such conduct was not reasonable.

Regarding the plaintiffs’ non-public information claims, Fleissig again turned to Dudenhoeffer. She noted that the Supreme Court held in that case that to state a viable non-public information claim, an ESOP/ERISA plaintiff “must plausibly allege an alternative action that the defendant could have taken that would have been consistent with the securities laws and that a prudent fiduciary in the same circumstances would not have viewed as more likely to harm the fund than to help it.” Fleissig concluded that the complaint does not meet this requirement. “Plaintiffs do not allege, for each proposed alternative, that a prudent fiduciary could not have concluded that the alternative would do more harm than good, nor do they offer facts that would support such an allegation. Thus, Plaintiffs’ nonpublic information claim fails,” she wrote in her opinion.