VideoThe problem arises when an executive-fiduciary has inside information that could affect the employer's share price. If that executive tips off plan beneficiaries to material, nonpublic facts about the company — even in a well-intentioned effort to act in the best interests of the plan — he or she could be charged with insider trading. (That may (or may not) have on Ken Lay's mind when he allegedly failed to tell Enron 401(k) participants that trouble might be afoot.)
Thorny though the dilemma is, a few new brambles may be emerging. Until now, the only requirement under ERISA that applied to employers in possession of material, nonpublic information was not to lie about it to plan participants, says Shore, citing the 1996 Supreme Court decision in Varity v. Howe. But if a Department of Labor friend-of-the-court brief holds sway, employers will be asked to do more than simply hold their peace.
The DoL brief, filed last August on behalf of the plaintiffs in the Enron case, asserts that fiduciaries have a greater duty than not to speak with forked tongue — they must protect plan participants from misleading information. In practical terms, the DoL maintains, Enron's fiduciaries should not only have come clean about Enron's dire straits, they should have eliminated Enron stock as a 401(k) investment option and as an employer match. After all, argues the DoL, insider-trading laws bar only the buying and selling of stock on the basis of inside knowledge — they don't prohibit directors and officers simply from stopping share transactions. So senior executives and board members who are fiduciaries should act to stanch the bleeding, maintains the DoL.
When a plan stops buying company stock, counters Linda Shore, the Securities and Exchange Commission might then be able to argue that the action "implicitly conveys material information." Adds Shore: "The only reason the company has put a brake on this is that there's a problem. A reasonably smart participant would sell, and sell now, based on the implicit [information], wouldn't he?"
A fiduciary who does the right thing in the eyes of the DoL, by curbing plan losses, could thus be charged by the SEC with being an inside tipster. The implications are "very scary" for employers in such situations, says Shore, who represents employers for Silverstein and Mullens, a division of Buchanan Ingersoll. "You've got to think twice about offering company stock."
Another reason to reconsider is that overabundant 401(k) holdings in company shares might knock the balance of total employee compensation packages off-kilter. If you add salary and bonus into the calculation, "you're investing a lot in a company just by working for it," says Ed Goldfinger, CFO of Empirix, a Waltham, Massachusetts-based Web applications provider. It's better to diversify, he adds, and to not let your 401(k) ride on company stock.
Tailored Suits
These dangers haven't been lost on fiduciary liability insurers. Alarmed by what he calls "fiduciary claims dressed up as securities claims," John Coonan, Chubb & Son's fiduciary liability product manager, has directed his field underwriters to lessen the carrier's risk exposure. "We're asking more and tougher questions" of corporate clients, he says. "Do you have company stock in your plan?" is at the top of the list.
If the answer to that question is yes, there are likely to be consequences. Just a few months ago, Chubb slashed the fiduciary liability coverage that it will make available to some Fortune 500 companies. If they have more than 10 percent of their total benefit-plan assets (including 401(k)s as well as other plans) in company stock, at their next renewal their available protection would be reduced from $25 million to a maximum of $10 million.
These companies can also expect elephantine premium boosts. While some of Chubb's clients in the billion-dollar-asset range have been hit with relatively moderate increases — where "moderate" means a 40 percent to 50 percent hike — Chubb is likely to extract multiples of that amount if the client is a Fortune 500 company, says Coonan.
Despite the tightening insurance market and the legal risks, however, company stock continues to be a mainstay of 401(k) plans. In a study of about 50,000 plans with 15 million 401(k) participants, as of year-end 2001, 45 percent of the participants were in plans that offered company stock as an investment option. The study, conducted by the Employee Benefits Research Institute and the Investment Company Institute, added that of the participants in plans offering stock, more than half held a portfolio that included 20 percent company stock or less — but 16 percent held a portfolio including more than 80 percent company stock.
Indeed, the much-vaunted advantages of providing company shares are still being vaunted. The positives, of course, include the alignment of employee and shareholder interests and the feeling of ownership that employees can enjoy.
Furthermore, when an employer like Charles Schwab puts a hold on its 401(k) cash contributions — as Schwab recently did, though a company representative maintains that this is a temporary measure — equity matches might make even more sense. "When cash flow is tight, you can continue to make matching contributions," says David Wray, president of the Profit Sharing/401(k) Council of America. "It's better to have a company-stock match than no match at all."
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