Edgar v. Avaya, Inc.

Citations: 503 F.3d 340; 41 Employee Benefits Cas. (BNA) 2249; 2007 U.S. App. LEXIS 22739; 2007 WL 2781847Docket: 06-2770

Court: Court of Appeals for the Third Circuit; September 26, 2007; Federal Appellate Court

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Jane Edgar, a former employee of Avaya Inc., filed a lawsuit against Avaya and several of its officers, alleging breaches of fiduciary duties under ERISA, specifically 29 U.S.C. § 1104. The claims arose after Avaya’s stock price dropped from $10.69 to $8.01 due to the company's failure to meet earnings forecasts for fiscal year 2005. Edgar contended that offering Avaya common stock as an investment option in three employee pension benefit plans was imprudent and that there was a lack of material information disclosed to participants.

The United States Court of Appeals for the Third Circuit affirmed the District Court's dismissal of Edgar's amended complaint under Rule 12(b)(6), agreeing that she did not sufficiently plead facts demonstrating a breach of fiduciary duties. The court determined that Avaya, established in 2000 as a spin-off from Lucent Technologies, offered a range of investment options through its pension plans, including the Avaya Stock Fund, which primarily invested in Avaya stock. Participants had the discretion to allocate their contributions among various investment options, which were designed to provide retirement income while allowing for risk and return considerations. The court highlighted that the Plans explicitly stated the inclusion of Avaya common stock as an investment option, thereby implicating the participants' responsibility to assess associated risks and rewards.

The Avaya Stock Fund's value is influenced by Avaya's performance, overall market conditions, short-term investments, and fund expenses. Investing in this non-diversified stock fund carries higher risks compared to a diversified fund. As of December 2004, the Master Trust's total assets were valued at $1.4 billion, with approximately $229 million (16%) allocated to the Avaya Stock Fund. On April 19, 2005, Avaya announced it would likely not meet its earnings forecasts for fiscal 2005 due to sales disruptions from new delivery methods, acquisition integration costs, and potential market softness, resulting in a stock price drop from $10.69 to $8.01 per share the following trading day. Edgar filed a class action lawsuit under ERISA, seeking damages and injunctive relief for participants who invested in the Avaya Stock Fund between October 2004 and July 2005. The defendants moved to dismiss the complaint for lack of standing and failure to state a claim, leading to the District Court granting the motion without addressing standing. The appellate court has jurisdiction to review the dismissal and applies a plenary standard, accepting all well-pleaded allegations as true. Edgar argues that the defendants breached fiduciary duties by imprudently offering Avaya stock during the Class Period and failing to disclose Avaya's financial issues. The District Court found the defendants' actions should be assessed under an abuse of discretion standard and concluded that Edgar did not provide sufficient facts to show such an abuse. Both rulings by the District Court are upheld.

An abuse of discretion standard applies to the decision of defendants to offer Avaya stock as an investment option. The District Court's determination relied on Moench v. Robertson, which established that fiduciaries of Employee Stock Ownership Plans (ESOPs) are entitled to judicial deference when investing plan assets in the sponsoring company's stock. Although the Plans in question are not classified as ESOPs, the same deferential standard is deemed applicable. The Moench case involved a lawsuit against ESOP fiduciaries for failing to diversify investments after a significant decline in stock value, leading to a reversal of summary judgment in favor of the defendants. The ruling highlighted that ESOP fiduciaries retain limited discretion over investments despite a primary obligation to invest in employer stock, and that they must adhere to duties of loyalty and care typical of ERISA fiduciaries. The investment decisions of fiduciaries in profit-sharing plans face rigorous scrutiny, even with a legislative preference for employer stock investments. The court declined to adopt a blanket rule exempting ESOP fiduciary decisions from judicial review, advocating for a balanced intermediate abuse of discretion standard that recognizes the dual roles of ESOPs as both retirement plans and corporate financing mechanisms. Trust law distinctions were noted: if a trust mandates investment in specific stock, the trustee is immune from review, whereas if it merely permits such investment, the decision is subject to de novo review. The circumstances in Moench did not strictly fit either category, justifying the intermediate standard.

A rebuttable presumption is established for ESOP fiduciaries investing in employer stock, implying compliance with ERISA unless the plaintiff demonstrates an abuse of discretion. The plaintiff in this case argues that Moench's presumption of prudence is inapplicable because the Plans are not ESOPs. However, the court finds that the Plans qualify as Eligible Individual Account Plans (EIAPs) under ERISA, which encompasses various account plans, including ESOPs. EIAPs, like ESOPs, share characteristics that exempt them from ERISA's diversification duty and allow for investments in employer securities, thereby placing employee retirement assets at greater risk.

The court supports the application of Moench’s abuse of discretion standard to evaluate the defendants’ decision to offer the Avaya Stock Fund as an investment option. It concludes that the allegations in the amended complaint do not sufficiently establish abuse of discretion by the fiduciaries. To overcome the presumption of prudence, the plaintiff must show that the fiduciary could not reasonably believe that following the ESOP's direction aligned with the settlor’s expectations for prudent management. The plaintiff can present evidence indicating that unexpected circumstances rendered continued investment in employer securities detrimental to the trust's objectives. In the referenced Moench case, the plaintiff pointed to a significant decline in stock value, regulatory scrutiny, operational failures, and eventual bankruptcy as evidence of changed circumstances.

Edgar alleges in the amended complaint that the defendants abused their discretion by ignoring significant negative factors regarding Avaya's recent acquisition, including: (1) integration costs being higher than publicly stated; (2) the acquisition negatively impacting earnings by at least $0.06 per share in fiscal 2005; (3) disruptions in product delivery affecting sales; and (4) a notable decrease in product demand. Edgar argues these issues undermined any reasonable basis for projecting a 25-27% increase in profits or revenues for that fiscal year. Consequently, he claims that during the Class Period, Avaya faced corporate developments likely detrimental to earnings and stock value, evidenced by a $2.68 decline in stock price following an earnings announcement.

However, it is noted that such developments do not necessitate that defendants violate the Plans by removing Avaya Stock Fund as an investment option or divesting Avaya securities, as doing so could expose them to liability for not adhering to the Plans' terms. The document emphasizes that fiduciaries exercising caution by maintaining employer securities can face liability if those securities perform well. Edgar also contests the District Court’s application of the Moench presumption of prudence at the motion to dismiss stage, arguing it contradicts Rule 8's pleading standards. The court counters that if a plaintiff fails to plead essential elements of a claim, the complaint must be dismissed under Rule 12(b)(6). Citing Wright v. Oregon Metallurgical Corp., it asserts that the employer's financial stability during the period undermines claims of imprudence.

Regarding the duty of disclosure, Edgar contends that defendants should have disclosed adverse developments before the April 19, 2005 earnings announcement. The court disagrees, affirming that an ERISA fiduciary's duty includes not materially misleading beneficiaries and the obligation to inform when silence could harm them.

The court in Unisys determined that fiduciaries have a duty to avoid material misrepresentations to participants regarding investment risks. A misrepresentation is considered material if it could mislead a reasonable participant in making informed investment decisions. Summary Plan Descriptions communicated that investments are tied to market performance, carry varying risks and returns, and encouraged participants to investigate options and consider financial advice. The disclosures clarified that there are risks associated with non-diversified funds and did not guarantee specific investment returns. These disclosures met the defendants' obligations under ERISA, as they did not have a duty to provide investment advice or comment on stock conditions. 

The court agreed with the District Court's assessment that an earlier disclosure of adverse developments would not have helped the Plans avoid losses, as the market would have adjusted swiftly to such information. Additionally, divesting from Avaya stock based on non-public information could have led to insider trading liability. Consequently, the defendants adequately informed participants of investment risks, and failing to disclose certain adverse developments before the earnings announcement did not breach ERISA obligations. Edgar's claims that the defendants abused their discretion by allowing investment in Avaya stock were unsubstantiated. The District Court's dismissal of the amended complaint under Rule 12(b)(6) was thus affirmed.

An employee pension benefit plan, as defined under 29 U.S.C. 1002(2)(A), is any employer-established plan that provides retirement income or allows for income deferral by employees until after their employment ends. The plans in question are classified as individual account and defined contribution plans, where benefits depend solely on the contributions made and the resulting financial performance. Edgar inaccurately labels these plans as traditional retirement plans; however, traditional plans are defined benefit plans that guarantee a fixed income based on earnings history and years of service.

The Union Plan, Variable Plan, and Management Plan are collectively referred to as the Plans, with participants being individuals involved in any of the three unless specified otherwise. Under 29 U.S.C. 1132(a), participants in an ERISA plan can sue for breaches of fiduciary duty, and 29 U.S.C. 1109(a) mandates fiduciaries to compensate the plan for losses resulting from their breaches and allows for equitable relief. The District Court noted that while standing is generally a jurisdictional issue, the defendants conceded Edgar's standing to sue for the Union Plan, making a ruling on the motion to dismiss unnecessary for case resolution.

ERISA fiduciaries must adhere to principles similar to trust law, specifically under 29 U.S.C. 1104(a), which requires them to diversify investments to mitigate risks unless imprudent not to do so. The court highlighted that, given the purpose of an Employee Stock Ownership Plan (ESOP) to provide employee ownership in the employer's stock, it would be contradictory for fiduciaries to have to sell most employer stock to create a diversified portfolio. The court did not address the potential breach of fiduciary duty should an ESOP mandate investment solely in employer securities. It was noted that the defendants maintained some discretion regarding the offering of Avaya common stock. The court rejected Edgar's assertion that the ruling in In re Schering-Plough Corp. ERISA Litigation contradicted their conclusions, clarifying that Schering-Plough dealt with a different type of ERISA plan not relevant to this case.

The document clarifies that no opinion is given on the relevance of § 1104(a)(2), which exempts Eligible Individual Account Plans (EIAPs) from the diversification requirement, regarding the case's facts. It states that the Moench decision does not mandate that a company must approach bankruptcy for fiduciaries to divest employer securities. The allegations of fraud in Edgar's amended complaint are deemed insufficient to demonstrate an abuse of discretion, especially considering Avaya's stock price recovered to $10.74 per share by July 26, 2005, exceeding its price on the day of the April 19, 2005 earnings announcement. While Edgar references district court cases suggesting Moench's presumption of prudence should not influence a dismissal motion, the document asserts that a legally inadequate prudence claim negates the need for discovery. Edgar’s argument that the dismissal of her duty of prudence claim improperly led to the dismissal of her other claims (breach of loyalty, breach of duty to monitor fiduciaries, and co-fiduciary liability) is rejected, as the affirmation of the dismissal of her prudence claim provides no grounds to contest the dismissal of the additional claims.