Defined Contribution Plan Litigation and Stable Value Washington, D.C. October 14, 2014 Mark B. Blocker Eric S. Mattson

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1 BEIJING BRUSSELS CHICAGO DALLAS FRANKFURT GENEVA HONG KONG HOUSTON LONDON LOS ANGELES NEW YORK PALO ALTO SAN FRANCISCO SHANGHAI SINGAPORE SYDNEY TOKYO WASHINGTON, D.C. Defined Contribution Plan Litigation and Stable Value Washington, D.C. October 14, 2014 Mark B. Blocker Eric S. Mattson

2 The New Wave of 401(k) Fee Cases Fairly quiet for first three decades of ERISA Then, in 2006, two groundbreaking events: Haddock v. Nationwide ruling in 2006 The Schlichter filings on September 11, 2006

3 The New Wave of 401(k) Fee Cases Two basic targets, and two basic themes: Against service providers and fund providers: You made money in an inappropriate way Against plan sponsors and fiduciaries: Your choice of investment options was imprudent

4 Haddock v. Nationwide The judge refused to throw out the case Challenged revenue sharing between mutual fund companies and service providers Plaintiffs call these payments kickbacks The judge decided: Nationwide could be a fiduciary under ERISA Revenue sharing payments may be plan assets Nationwide may have violated ERISA Startling decision and for plaintiffs lawyers, an inspiring one

5 The Cases Against Service Providers Outcomes have depended mostly on whether service provider was acting as a fiduciary when collecting fees or earning profits Why does fiduciary status matter so much? Much easier path to liability

6 The Cases Against Service Providers In the Courts of Appeals where general rules are set service providers are undefeated: Fidelity American United Life Insurance Co. John Hancock Life Insurance Co. (U.S.A.)

7 The Cases Against Service Providers In the trial courts, more of a mixed bag: Nationwide case still pending Transamerica Earlier Hancock opinion still on the books

8 The Schlichter Cases A Lone Ranger of the 401(k) s So says a puff piece in The New York Times

9 The Schlichter Cases Multiple ERISA class actions filed in September 2006 All targeted plan sponsors; some also targeted service providers Caterpillar (Illinois) Bechtel (California) Lockheed Martin (Illinois) General Dynamics (Illinois) Exelon (Illinois) International Paper (Illinois) United Technologies (Connecticut) Deere & Co. (Wisconsin) Boeing (Illinois) Settled for $16.5 million Settled for $18.5 million Pending Settled for $15 million DEFENSE WIN Settled for $30 million DEFENSE WIN DEFENSE WIN Pending

10 A Setback in St. Louis The Court of Appeals in St. Louis allowed plaintiffs to go ahead with their 401(k) excessive fee claims against Wal-Mart Agreed that a large plan should get less expensive investment options Took at face value claim that Wal-Mart picked retail classes of funds when it could have picked cheaper, institutional classes Later settled for $13.5 million Most of the money ($10 million) came from Merrill Lynch, the plan trustee

11 Why stable value funds are increasingly becoming litigation targets Large amount of dollars involved The product is not well understood by the plaintiff s bar or judges Typically not the highest performing option in the plan, especially in today s environment Natural expansion of claims involving mutual fund fees and expenses 11

12 What kinds of claims are plaintiffs lawyers asserting against stable value funds? 1. Underperformance claims 2. Excessive fee claims 3. General imprudence claims 12

13 Who are the lawyers bringing these claims? Over the past decade, a handful of plaintiffs law firms have filed an increasing number of fee and expense cases Some of those law firms are now looking at stable value funds as targets These lawyers have become very conversant with ERISA and are formidable opponents Several firms may band together to pursue a defendant These firms are collectively well-financed and are often aggressive 13

14 Exemplary Cases Involving Stable Value Funds 1. Abbott v. Lockheed Martin 2. Austin v. Union Bond/Morley/Principal Life 3. Tibble v. Edison International 14

15 Abbott v. Lockheed Martin: The Claims The SVF claim involves alleged under-performance and imprudence Plaintiffs alleged that the SVF was imprudent because it was over-concentrated in short-term instruments Plaintiffs contend that a typical SVF had 5% of assets in money-market-type instruments, and that this fund had 50-99% 15

16 Abbott v. Lockheed Martin: The Claims - 2 Internal documents: the SVF had become a money market fund As a result, plaintiffs claim that the SVF had a low rate of return that did not beat inflation by much Claim that SVF returns consistently lagged the Hueler Index Plaintiffs claim that the SVF was therefore not a prudent option for a 401(k) plan 16

17 Abbott v. Lockheed Martin: The Defense The strategy and composition of the SVF was fully disclosed in prospectus listed as a money market/stable value option The prospectus disclosed that the SVF s return might not exceed inflation There is no uniform definition of what constitutes an SVF The composition of the SVF was prudent 17

18 Abbott v. Lockheed Martin: The Court s Ruling No winner has yet been declared But plaintiffs have passed some significant procedural hurdles Case is likely to go to trial 18

19 1. Spread Austin v. Union Bond: The Claims Plaintiff contends that the wrap providers earn extra, undisclosed compensation through spread on synthetic GICs Combination of disclosed plus undisclosed fees are excessive 2. Crediting Rate 19 Plaintiff contends that the wrap providers manipulate the crediting rate to their advantage Claim that manipulation of the rate has resulted in underperformance Use the Hueler Index as a comparator

20 1. Spread Austin v. Union Bond: The Defense There is no spread on synthetic GICs The wrap providers do not own the assets, so no way to earn spread The formula passes through all gains and losses 2. Crediting Rate The crediting rate is determined by a pre-set formula As a result, there is no way to manipulate the rate The cited Hueler statistics compare apples and oranges 20

21 Austin v. Union Bond: The Court s Ruling Defendants have filed a motion to dismiss The Court has not yet ruled, but a decision is expected in the near future The Court s ruling could have tremendous impact on whether there will be more of these claims Compare to revenue sharing cases; early adverse rulings triggered a wave of lawsuits 21

22 Tibble v. Edison International: The Claims The 401(k) plan offered a short term investment fund (STIF) Plaintiffs claimed it was imprudent to offer a STIF rather than a SVF Plaintiffs argued that the return on an SVF would have been higher 22

23 Tibble v. Edison International: The Defense The plan committee considered whether to offer an SVF, but decided not to because the STIF would provide more consistent returns with lower risk Evidence showed that, in , 58% of all 401(k) plans offered a STIF, so decision to offer a STIF was the norm Evidence that 40% of plans still offered a STIF in

24 Tibble v. Edison International: The Court s Ruling Good news: defendants win The plan committee acted properly by considering use of an SVF The reasons for the decision not to offer an SVF were sound and defensible 24

25 The future of lawsuits involving stable value funds We expect activity in this area to increase Plaintiffs lawyers are looking for new sources of money to attack Court rulings in the near future could impact the landscape greatly 25