The Sixth Circuit has reversed the district court’s dismissal of the GM ERISA stock-drop suit, Pfeil v. State Street Bank & Trust Co., and is allowing the case to proceed.  You may recall that we cautioned fiduciaries of ESOPs and 401(k) plans allowing investment in employer stock to keep an eye on this case because it could be a game-changer. And now it is.

The GM plan offered a number of investment options, one of which was the GM stock fund. The GM stock fund was not a default fund, and participants could change investments on any business day. On July 15, 2008, GM announced a restructuring plan. Plaintiffs chose to remain invested in the fund after that date and in light of “reliable public information” that GM was headed for bankruptcy. Plaintiffs allege that the fiduciary breached its duty because, rather than overruling the decision of participants to keep some fifty million shares invested, it waited to force sale of the shares until spring of 2009. Plaintiffs allege that the fiduciary should have sold the shares on July 15, 2008, the date of the announcement of the restructuring.

The Sixth Circuit decision involved whether this case could be dismissed at the pleading stage. The Sixth Circuit held that the “Moench presumption” of prudence does not apply at the pleadings stage, essentially creating a split with four other circuits. Further, the court held that the 404(c) safe harbor is an affirmative defense that does not apply at this stage, siding with three circuits in a split with the Fifth Circuit. Finally, the Sixth Circuit reversed the district court’s decision on causal link. The district court had held that there was no causal connection because participants directed investments. But the Sixth Circuit held that there could be a causal connection, because GM stock may not have been a prudent investment to offer participants.

Plaintiffs still have to prove that the fiduciary should have bet against the participants. The case may not survive a motion for summary judgment, but the litigation costs to get that far could be significant. The decision is a major win for the plaintiffs, but that win is at the expense of employees who want to keep their investment in employer stock. When stock performance weakens, the fiduciary has to assume investment risk management by gambling: hold, and get sued if the price drops; or fold, and get sued if the price rises. Where is the money going to come from to cover this investment risk management and ERISA class action litigation exposure? Neither the prospect of much higher fiduciary fees, nor the economic impact of squashed employee investment in employer stock, bode well for these employees.