What If Your Company's 401(k) Plan Lays an Egg?
from
November/December 2003
by Rob Norton
One of the most unfortunate results of the Enron collapse was the vaporization of many employees’ retirement savings as the stock plunged from $80 to 40 cents per share in a matter of months. Most of Enron’s 401(k) pension plan had been invested in company stock, and thousands of workers lost their nest eggs. So, too, did many thousands more as similar troubles emerged at other companies.
Flailing for a quick response, Congress introduced sweeping legislation. But very little came of it. A couple of minor fixes were included in the Sarbanes-Oxley Act of 2002, but none of the larger retirement reforms became law. And although reform bills were reintroduced in Congress this year, Washington insiders say their chances of passing are slim.
But directors and officers who think that the legislative inactivity means they’re off the 401(k) hook should look closely at Chao v. Enron. The lawsuit, filed by the Department of Labor in June, doesn’t just go after the Enron officers in charge of the 401(k) plan and the executives to whom they reported. It also names as defendants Enron’s board of directors, for not properly overseeing the plan. If the Labor Department prevails at trial, each director will be potentially liable for the entire $2.1 billion Enron 401(k) participants lost.
Furthermore, the case will influence the way courts interpret the law in the hundreds of class-action lawsuits that have been and continue to be filed against companies whose 401(k) plans have dwindled because of the falling price of company stock. “What’s going on in the courts is a far greater concern than potential legislation,” says Sherwin S. Kaplan, a litigator with the Washington, D.C., law firm of Thelen Reid & Priest.
The biggest problem revealed in the Enron meltdown was that too many workers keep too high a percentage of their retirement assets in company stock. What wasn’t so voluntary was that Enron made its matching contributions in its own stock, which employees were prevented from selling until they reached the age of 50. A number of employees who qualified to sell the stock were unable to do so during one steep slide in the share price because of a “lockdown” prohibiting trades while the company changed plan administrators.
Many outfits can argue that their shares are much less risky than Enron’s and that workers seem to like things the way they are. “Most employees want to have some ownership share in their companies, and don’t seem to be reallocating even though they could,” says Dallas Salisbury, CEO of the Employee Benefits Research Institute, a nonprofit research center.
But that raises another point: Are 401(k) investors generally getting enough advice on strategies and risks? Companies have traditionally shied away from providing investment advice or even making it available through third parties, partly for fear of being found liable for losses if the advice later proves wrong.
The reforms that Congress has considered would:
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Require companies to give 30 days’ notice before declaring a “lockdown” period.
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Put a 20% cap on how much of a 401(k) plan may be invested in company stock.
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Impose tax disincentives on companies that make 401(k) contributions in their own stock.
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Permit workers to diversify their investments after three years.
- Encourage companies to provide investment advice. This proposal includes a stipulation that companies would not be responsible for monitoring the advice itself, although they would be liable for the selection and periodic review of investment advisers.
Despite the dearth of legislation, many companies have voluntarily made changes in their 401(k) plans, especially regarding company stock. Gannett Co., which used to forbid employees to sell company-matched shares before age 55, has done away with the rule. Chairman and CEO Douglas H. McCorkindale says that the news corporation’s board “reviewed the 401(k) plan restrictions and decided they were simply outmoded.” Others are following suit. A March survey by the Association for Financial Professionals found that a third of respondents’ companies had recently relaxed rules governing company stock, and that more than two-thirds had no restrictions on when employees could sell those shares.
But legislative gridlock is discouraging employers from offering more investment education and advice to 401(k) participants. “People are worried about investor lawsuits if they go ahead and hire someone to provide advice and there’s a problem,” says Rick Meigs, president of the retirement-information firm 401khelpcenter.com. “Legislation would go a long way toward making companies more willing to do it.”
The Department of Labor lawsuit makes it clear that boards can’t afford to wait for Congress to define their responsibilities. Among other things, it charges Enron’s top officers and board, the supposed monitors of the retirement investment plan, with failing to act on public and private information about the company’s financial condition. Many would define this as a brand-new boardroom responsibility. Says attorney Sherwin Kaplan: “If plaintiffs’ lawyers had stood up a year ago and said that directors were responsible for telling employees that the company stock was not a good investment, they would have been laughed out of court. This suit has made it a credible position to assert.”
Some benefits managers, however, acknowledge that the Labor Department is onto something. “Coming down hard on this issue is long overdue,” says Julie Adamik, senior manager of global benefits at Callaway Golf Co. in Carlsbad, California. “Good companies have always been cautious and taken their fiduciary responsibilities seriously. But there’s been a lot of abuse. I think it will have a very positive effect on corporations as a whole, by bringing to the forefront just how serious this stuff is.” Alert directors have already noticed.
