Target Hit With a Second Stock-Drop Challenge

The text of a new lawsuit accusing the Target Corporation of violating ERISA in the management of its employee stock ownership plan (ESOP) shows the ripple effects of the Supreme Court’s 2014 decision in Fifth Third Bancorp v. Dudenhoeffer are still very much in play.

Close readers of PLANSPONSOR.com will notice this is actually the second such case to be filed against Target in just a matter of days. Related to the previous case brought by another set of Target employees seeking class action status, plaintiffs are bringing this case to remedy alleged breaches of fiduciary duties under Employee Retirement Income Security Act (ERISA) Sections 404(a)(1), 29 U.S.C. § 1104(a)(1).

“Under ERISA, defendants were obligated to protect the interests of the plan’s participants,” the lawsuit contends. “Specifically, defendants breached their duties by, among other things, retaining common stock of Target Corporation as an investment option in the plan when a reasonable fiduciary using the care, skill, prudence, and diligence … that a prudent man acting in a like capacity and familiar with such matters would use would have done otherwise.”

Plaintiffs make an argument that has come up many times in the district and appellate courts post-Dudenhoeffer: “Defendants, who had access to nonpublic information relating to Target’s operations, permitted the plan to continue to offer Target Stock as an investment option to participants even after the defendants knew or should have known that Target Stock was artificially inflated during the Class Period (February 27, 2013 to May 19, 2014, inclusive).”

Due to the “artificial inflation of the company stock price,” which according to plaintiffs the defendants knew would be corrected upon the forthcoming revelation of negative information, “Target Stock was an imprudent retirement investment for the plan given its purpose of helping plan participants save for retirement. As fiduciaries of the plan, defendants were empowered to remove Target Stock from the plan’s investment options, or to take other measures to help participants, but failed to do so or take any other action to protect the interests of the plan or its participants.”

NEXT: Not an easy case to make

As in related “stock drop” cases argued post-Dudenhoeffer, plaintiffs will benefit from the fact that ESOP fiduciaries no longer have a “presumption of prudence” as it pertains to choosing to keep employer stock in the plan—but they will still have to prove to the court that plan fiduciaries could have and should have known to take another action, besides holding onto the falling stock, without violating critical insider trading rules policed by the Securities and Exchange Commission.

Plaintiffs say this is no problem, citing the nuances of Fifth-Third vs Dudenhoeffer: “The Supreme Court has explained that an ERISA fiduciary’s perpetuation of an imprudent investment violates his obligations under ERISA. In Fifth Third Bancorp vs Dudenhoeffer, the Supreme Court considered a class action in which participants in and ERISA plan challenged the plan fiduciaries’ failure to remove company stock as a plan investment option.”

On the plaintiffs’ interpretation, the Supreme Court held that retirement plan fiduciaries are required by ERISA to determine independently whether company stock remains a prudent investment option. In cases where fiduciaries feel non-disclosed information could likely tank the employer stock price, possible actions to protect participants should at the very least be investigated and seriously considered, if not actually implemented.

“Moreover, the Supreme Court rejected the defendant-fiduciaries’ argument that they were entitled to a fiduciary-friendly presumption of prudence, holding that no such presumption applies … and further held that the duty of prudence trumps the instructions of a plan document, such as an instruction to invest exclusively in employer stock even if financial goals demand the contrary,” the complaint argues. “Thus, even if the plan purportedly required Target Stock be offered, the plan’s fiduciaries were obligated to disregard that directive once company stock was no longer a prudent investment for the plan.”

Acknowledging that it can be tricky for an ESOP investment committee to field and manage insider information about the employer stock price and the rationality of its valuation, plaintiffs argue the Target officials in charge of the plan in this case did not live up to ERISA’s strict standards of care.

“During the class period, the company made a series of reassuring statements about Target’s new Canadian stores and operations,” plaintiffs add. “These statements were materially false and misleading and/or omitted to disclose: (a) at the time of the opening of its first group of stores in Canada, Target had significant problems with its supply chain infrastructure, distribution centers, and technology systems, as well as inadequately trained employees; (b) these problems caused significant, pervasive issues, including excess inventory at distribution centers and inadequate inventory at retail locations; (c) this excess inventory at distribution centers and lack of inventory at retail locations forced Target to discount heavily products and incur heavy losses; and (d) these supply-chain and personnel problems were not typical of newly launched locations in Target’s traditional U.S.-based market.”

Given the totality of circumstances prevailing during the class period, plaintiffs conclude that “no prudent fiduciary could have made the same decision as the defendants to retain and/or continue purchasing the clearly imprudent Target Stock as a Plan investment.”

Full text of the complaint is available here.