December 2, 2022

Second Circuit Upholds Dismissal of ESOP Lawsuit for Lacking Article III Standing

Court Concludes More Is Needed to Allege Injury Than Conclusory Allegations and Further Discovery
Holland & Knight Alert
Lynn E. Calkins | Chelsea Ashbrook McCarthy


  • The U.S. Court of Appeals for the Second Circuit upheld the dismissal of a complaint alleging Employee Retirement Income Security Act of 1974 (ERISA) violations for lack of standing because the plaintiff failed to allege concrete, particularized and actual injury in fact as required under Article III of the Constitution.
  • The court concluded that a post-transaction drop in valuation in a leveraged Employee Stock Ownership Plan (ESOP) transaction does not support the inference that the Plan purchased the company stock for more than fair market value.
  • The court also concluded that the allegation that the Plan did not obtain post-transaction control over the company and did not support the inference that the Plan in fact overpaid by paying a control premium.
  • The court rejected the pleading of speculative and conclusory allegations listing generic potential valuation errors because the complaint failed to allege what errors the company actually committed.

In Plutzer v. Bankers Trust, the U.S. Court of Appeals for the Second Circuit affirmed dismissal by the U.S. District Court for the Southern District of New York de novo; and emphasized that a plaintiff must allege concrete, particularized and actual injury in fact to establish subject matter jurisdiction under Article III of the Constitution. The court considered whether conclusory and speculative allegations tied to elements under the Employee Retirement Income Security Act of 1974 (ERISA) conferred standing and concluded that they did not.

The plaintiff, Edward Plutzer, on behalf of the Tharanco Group Inc. Employee Stock Ownership Plan (ESOP), and on behalf of a class of all others similarly situated, claimed that the ESOP paid more than fair market value to acquire 100 percent of Tharanco stock, resulting in harm in the form of losses to the Plan, and thereby sought liability against the defendant former trustee and individual defendant owners/directors. In support, the plaintiff alleged an inference of injury in fact because Tharanco's post-transaction valuation was lower than the price paid for the stock. The plaintiff further alleged an inference that the ESOP overpaid because the company did not obtain control post-transaction, but failed to allege that the ESOP actually paid a control premium. Finally, the plaintiff alleged a generic list of potential valuation errors, but failed to specify what errors the company actually committed.

In its opinion issued Nov. 21, 2022, the court emphasized the threshold requirement of alleging concrete, particularized and actual injury sufficient to provide Constitutional standing. The court held that neither conclusory inferences drawn from fluctuating post-transaction valuations nor speculative allegations of potential valuation errors were sufficient to support standing. Moreover, the Southern District of New York below criticized the plaintiffs for intending to rely on further discovery to show individual defendants were indeed parties in interest or that the former trustee indeed caused losses to the Plan.

Post-Transaction Valuation Lower Than Stock Purchase Price Did Not Provide Inference of Overpayment

The Second Circuit rejected the notion that a post-transaction drop in stock value alleged an inference of overpayment. The plaintiff alleged that the Plan purchased 100 percent of the outstanding Tharanco stock on April 27, 2015, for $133.43 million. Following the transaction, the company's Form 5500 indicated that the shares were revalued at $13.25 million. Two years later, in 2017, the value of the stock rose to $30.8 million, before dropping to $25.2 million in 2018 and then again to $9.8 million in 2019. As the District Court noted, the plaintiff did "not aver that any of the valuations" referenced in the Form 5500s were "accurate." The plaintiff also alleged that the Plan must have overpaid due to paying a control premium because the Plan did not obtain control – but alleged no facts that the Plan actually paid a control premium.

The Southern District of New York held, and the Second Circuit affirmed in a de novo review, that the plaintiff failed to allege that overpayment actually occurred. The court drew on a comparison of a debt-financed, leveraged ESOP to a mortgage-financed house with no down-payment: if you purchase 100 percent of equity by taking on a debt of commensurate value, the new asset and corresponding obligation result in $0 of new equity. But if the asset turns out in fact to be worth more than the debt obligation, then the equity value generates a profit. As such, merely alleging that a stock purchase with a price of $133.43 million occurred and was followed by a revaluation of $13.25 million does not sufficiently allege a loss in equity value (i.e., harm in the form of losses to the Plan). In reality, all the allegation provides is that the stock purchase occurred, and fails to sufficiently allege injury in fact. It is worth noting that the plaintiff did not submit the Form 5500s to the District Court, to which the court responded that "it is unclear why discovery should be necessary to make a threshold showing of injury" when Form 5500s are publicly filed.

Moreover, given the up-and-down nature of the subsequent valuations, and the fact that the value first dropped significantly four years after the Plan purchased Tharanco's shares, the court found no reasonable inferences to be drawn from the Form 5500s, much less in plaintiff's favor. Finally, although the plaintiff alleged overpayment due to a control premium despite the Plan's lack of control post-transaction, the court required factual allegations that the Plan did pay a control premium, not just that the Plan did not obtain control.

Speculative and Conclusory Allegations of Injury in Fact, Status as Parties in Interest and Valuation Errors Were Insufficient

The court also took issue with the speculative and conclusory nature of allegations vital to the claim. The plaintiff alleged that ESOP trustee relied on unreasonable financial projections, used inappropriate valuation methods and did not conduct sufficient diligence. In so doing, the plaintiff provided only a generic list of potential valuation errors and failed to specify what errors the company actually committed. As such, the court held that the plaintiff failed to adequately allege an injury in fact.

Moreover, the District Court held that even if the plaintiff could show that he suffered a concrete injury, such an injury could not be traced to either the trustee at the time of the ESOP transaction or the other individual defendants. Although the plaintiff argued that the two further valuation drops after 2015 could not be attributed to the debt obligation and so attacked projections, due diligence and methodology, the defendant trustee ceased to serve as trustee in 2016. And, the valuations dropped a year after a new trustee, a non-party, had taken over. Thus, there was an insufficient nexus between the defendant trustee's conduct and any harm.

Finally, and importantly, the court noted that the plaintiff qualified his allegations essential to a vital claim against the individual defendants by stating the allegations "will likely have evidentiary support after a reasonable opportunity for further investigation or discovery." Specifically, the plaintiff relied on this refrain to establish that individual defendants were "parties in interest" as required for their liability under ERISA § 502(a)(3). The District Court rejected this approach and called for factual allegations, because where the plaintiff does not allege that the individual defendants were parties in interest, it could not follow that they caused any injury to plaintiff. The Second Circuit affirmed the Southern District of New York's decision, but did not discuss these points.

Key Considerations

The court's decision is another win for ERISA fiduciaries, and pushes back against rote complaints that rely on calls for discovery or parrot the statutory language in lieu of factual allegations. Moreover, it sets the bar for sufficiently alleging injury in fact from losses a result of an ESOP transaction: a company valuation will invariably drop following a debt-financed transaction, and so a claimant must allege a drop in equity value.

As such, complaints should be carefully inspected for concrete, particularized allegations of injury in fact and traceability. Without them, the court may be obligated to dismiss the complaint for lack of subject matter jurisdiction under Article III of the Constitution.

If you have any questions regarding the court's decision or ERISA, please contact the authors or another member of Holland & Knight's ERISA Litigation Team, ESOP Group or Executive Compensation and Benefits Team.

Information contained in this alert is for the general education and knowledge of our readers. It is not designed to be, and should not be used as, the sole source of information when analyzing and resolving a legal problem, and it should not be substituted for legal advice, which relies on a specific factual analysis. Moreover, the laws of each jurisdiction are different and are constantly changing. This information is not intended to create, and receipt of it does not constitute, an attorney-client relationship. If you have specific questions regarding a particular fact situation, we urge you to consult the authors of this publication, your Holland & Knight representative or other competent legal counsel.

Related Insights