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Sponsors Cautioned to Minimize Risk When Offering Company Stock in 401(k) Plans

The high-profile bankruptcy filings by Enron Corp. and WorldCom in the past 12 months have called into question the wisdom of allowing participants in 401(k) plans to invest heavily in their employer's stock. When Enron imploded in a wave of accounting scandals in late 2001, its employees had approximately 60% of their 401(k) assets in Enron shares. Those shares became nearly worthless after Enron filed for bankruptcy protection in December 2001, leaving Enron workers approximately $800 million poorer.

WorldCom employees were dealt a similar blow when that firm became entangled in its own accounting fraud in June 2002. Participants in its 401(k) plan had about 32% of their assets in WorldCom stock, which also became nearly worthless. Since then, participants in both plans have filed a raft of lawsuits aimed at recovering some of their money, generally claiming, among other things, that their employers breached their fiduciary duty to their plan participants by not properly disclosing developments that would ultimately send their stocks crashing.

While none of those lawsuits have been concluded, attorney Donald J. Myers, head of the benefits practice for the firm of Reed Smith LLP in Washington, DC, says the suits have important implications for other plan sponsors. Myers notes that the Department of Labor in September filed a brief with the court handling the Enron litigation reinforcing the plaintiffs' arguments that Enron had a fiduciary duty to disclose corporate events that had a probability of affecting the company's stock price. As such, the Department of Labor has said, Enron may have had a duty to take some sort of action to protect plan participants.

Although Enron had appointed an "administrative committee" to oversee its 401(k) plan, Myers adds, the company itself retained some responsibility for the plan as the appointing fiduciary. The government's position in its brief, he says, is that appointing fiduciaries have an ongoing responsibility to make sure their appointed fiduciaries have the information they need to act on behalf of plan participants. "You can't just meet with them (the appointed fiduciaries) once a year," he reports.

Myers says it is not too soon for employers to begin devising strategies to reduce the risk of offering employer stock in their retirement plans. Possible measures include making the earliest possible public disclosure of problems that might adversely impact the company's stock price, appointing independent fiduciaries to oversee company stock in the retirement plan, minimizing the imposition of "blackouts" or "lockdown periods" during which plan participants cannot make trades in their 401(k) accounts, and lifting or easing requirements that employees hold company stock for specified periods of time before being allowed to diversify into other investment options.

While none of these measures are without potentially adverse side effects, Myers says, fiduciary liability in 401(k) plans is a potentially costly issue for employers that justifies their consideration. In fact, he warns that under ERISA fiduciaries can be personally liable for breaches of fiduciary duty, although many companies have a policy of indemnifying fiduciaries for such breaches and carry insurance against such payouts?assuming the breach was not a criminal violation of the law. "You can discourage a lot of plaintiff's attorneys by having and following procedures (for overseeing the 401(k) plan)."

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