Compliance November 14, 2008

Avaya Wins Appeal in Stock Drop Case

A former communications company employee battling in support of his stock-drop lawsuit suffered his second major legal setback.
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A federal appellate court backed a lower court judge, who ruled he had not proven his allegations.

The 3rd U.S. Circuit Court of Appeals asserted that U.S. District Judge Joel A. Pisano of the U.S. District Court for the District of New Jersey was correct when he declared in April 2007 that plaintiff Byron Ward had failed to prove fiduciaries of Avaya Inc.’s defined contribution plans breached their fiduciary duties (see “Court Finds Employees Missed ERISA Fiduciary Breach Case“). Ward charged that the plans should have sold off the communications firm’s stock during a period when the company was experiencing serious financial difficulties.

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The appellate panel found that Ward had not overcome a legal standard set by a 3rd Circuit 1995 case that if a plan mandates company stock be offered as an investment option, a fiduciary acts prudently if he or she retains the company stock as an investment option. The appellate judges explained that the prudence presumption set by the 1995 case can be rebutted if a plan participant is able to show that the company is in such a dire financial state that continued investment in the company’s stock would be unreasonable.

In light of that, wrote Circuit Judge Kent A. Jordan for the court, while there was a significant dip in the price of Avaya’s stock during the period covered by Ward’s suit, he was unable to “point to anything other than Avaya’s financial struggles to support his breach of fiduciary duty claim.” Also, according to the court, while Avaya’s stock price dropped significantly, by 2003 and 2004 the stock price had rebounded.

Short-Term Difficulties

Avaya was established in September 2000 through a spinoff from Lucent Technologies Inc. Employees of Avaya participated in three different defined contribution pension plans, all of which allowed employees to invest in the Lucent Stock Fund and the Avaya Stock Fund. Lucent and Avaya both suffered financially during the first three years following the spinoff.

Jordan said, at most, Ward’s allegations demonstrated that during the period at issue in the case, Avaya was undergoing corporate developments that were likely to have a negative impact on the company’s earnings. “That alone does not suffice to rebut the presumption that the defendants acted within their discretion in refusing to halt or alter the Plan’s investments in Avaya stock,” Jordan wrote.

Jordan asserted: “short-term financial difficulties do not give rise to a duty to halt or modify investments in an otherwise lawful ERISA [Employee Retirement Income Security Act] fund that consists primarily of employer securities.” the appeals court said.

The case is Ward v. Avaya Inc., 3d Cir., No. 07-3246, unpublished 11/13/08.

In Practice November 14, 2008

Once a Wirehouse Adviser, Always a Wirehouse Adviser?

Wirehouse advisers seem to like the idea of going independent—but few actually do it.
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Data from Cerulli Associates show clear differences between what channel wirehouse advisers prefer versus where they actually end up after moving firms.

Wirehouse advisers say they would prefer going to an independent broker/dealer (33%) or becoming a dually registered adviser (32%) if they left the wirehouse. However, 44.2% of them go back to another wirehouse when leaving a wirehouse firm. About 23% of them do go to a an independent B/D, but few (3.5%) become dually registered. Other preferred and actual destinations are more in line: 11% prefer a regional channel and 17.2% end up there; about 5% prefer the bank channel and 7% end up there; no one prefers the insurance channel, but about 5% end up there.

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According to Cerulli, the major factors contributing to advisers remaining in the wirehouse channel are remuneration, support, and responsibility. For instance, as far as remuneration, advisers might feel tied to a wirehouse through a long-term stock option program. Advisers might also want to stay with a wirehouse for the credibility and stability.

With that said, Cerulli notes that the headlines of 2008 might have degraded the branding of some of these firms, and also made advisers question the stability of the traditional firms. The financial crisis could end up being a catalyst for advisers who want to go independent (see Competition for Advisers Heats Up, RIAs Don’t Regret Going Independent).

“A major obstacle for advisers going independent is the challenges they face when transitioning from being employee to a business owner,” said Scott Smith, senior analyst at Cerulli and co-author of the report, in a Cerulli release. “To minimize this challenge, both independent B/Ds and RIA service agents have set up extensive transition teams specializing in setting up newly independent practices. These teams have noted sharp up ticks in inquiries through 2008 despite turbulent markets.”

Smith also noted that traditional B/Ds are increasingly recognizing the yearning toward independence and are and creating more independent affiliation models to meet the preference of advisers.

The above findings are from Cerulli Quantitative Update: Advisor Metrics 2008.

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