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KILLIAN v. MCCULLOCH

April 18, 1994

CATHERINE J. KILLIAN and RICHARD E. GROSSBERG, individually and on behalf of all others similarly situated, Plaintiffs,
v.
A. DONALD McCULLOCH, JR., REEF C. IVEY III, ALBERT J. DiMARCO and JOHN E. SYLVESTER, Defendants.



The opinion of the court was delivered by: J. CURTIS JOYNER

 Joyner, J.

 This matter involves a motion to dismiss filed by Defendants. On June 9, 1993, Plaintiffs filed a class action complaint against Defendants, Donald McCulloch, Reef Ivey, Albert DiMarco, and John Sylvester alleging violations of the Employee Retirement Income Security Act of 1974 (ERISA), as amended, 29 U.S.C. § 1001 et seq. (1991). Specifically, they alleged that Defendants' failure to pay certain amounts due to Plaintiffs under the Nutri/System, Inc., Partnership Profit Sharing Plan (the Plan) constituted a violation of their fiduciary duties under ERISA. On July 30, 1993, Defendants requested the Court to dismiss the complaint or to grant them summary judgment on the ground that the Court lacked subject matter jurisdiction because the Plan was not subject to ERISA, and therefore there was no federal question at issue. Moreover, Defendant Sylvester requested a stay of discovery as to him which this Court granted pursuant to an order dated October 12, 1993.

 Plaintiffs filed a first amended class action complaint on August 27, 1993. The amended complaint reasserted the original claim that Defendants violated ERISA in their administration of the Plan (count 1). It also included seven additional state law claims (counts two through seven and nine), plus a new ERISA claim based on events unrelated to the Plan, i.e., a claim pertaining to medical benefits (count 8). Plaintiffs also dropped two Pennsylvania residents named in the original complaint, presumably to ensure complete diversity of citizenship.

 Defendants McCulloch, Ivey, and DiMarco seek to dismiss all but count two of Plaintiffs' amended complaint on the ground that Plaintiffs fail to state a claim pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure. Alternatively, they request this Court to grant summary judgment against Plaintiffs on those counts pursuant to Rule 56 of the Federal Rules of Civil Procedure. Defendant Sylvester has filed a separate motion also seeking dismissal or summary judgment on the amended complaint.

 I. Standard

 A motion to dismiss pursuant to Rule 12(b)(6) challenges the legal sufficiency of the complaint. See Kehr Packages, Inc. v. Fidelcor, 926 F.2d 1406, 1408 (3rd Cir. 1991), cert. denied, 501 U.S. 1222, 115 L. Ed. 2d 1007, 111 S. Ct. 2839 (1991). In considering a Rule 12(b)(6) motion to dismiss, the court "must accept as true all well-pleaded allegations of the complaints and construe them liberally in the light most favorable to the plaintiffs." Labov v. Lalley, 809 F.2d 220, 221 (3d Cir. 1987); Institute of Pennsylvania Hospital v. The Travelers Insurance Co., 817 F. Supp. 24, 25 (E.D. Pa. 1993).

 Where a defendant introduces matters outside of the pleadings into a motion to dismiss, the motion is converted into a motion for summary judgment. See Fed. R. Civ. P. 12(b). A motion for summary judgment will be granted where the evidence establishes that no genuine issue of material fact exists in the dispute, and the moving party is entitled to judgment as a matter of law. Celotex Corp. v. Catrett, 477 U.S. 317, 323, 91 L. Ed. 2d 265, 106 S. Ct. 2548 (1986). The moving party has the initial burden of demonstrating that no material issue of fact exists; once proffered, the burden then shifts to the non-moving party to present evidence that there is a genuine issue for trial. Id.

 II. Discussion

 A. Statement of Facts

 Defendants McCulloch, Ivey, DiMarco, and Sylvester, by virtue of their ownership of all of Nutri/System's stock, held positions as both members of Nutri/System's Board of Directors and as the Corporation's officers.

 In the early months of 1989, however, Sylvester decided to retire from Nutri/System and sell his share of stock in Nutri/System (the Company). Sylvester and Nutri/System closed the sale of his stock on June 1, 1989, and by June 5, Sylvester actually ceased working for Nutri/System. Sylvester's retirement as a member of the Board of Directors and principal became official effective July 31, 1989.

 In March, 1989, Nutri/System's Board of Directors adopted the Plan. The Plan was intended to be a bonus program, supplementing the income of important employees with a share of the Company's profits. The Plan had three official purposes: 1) "to link the financial interests . . . of key employees with the long term performance and growth of Nutri/System;" 2) "to provide these individuals with an opportunity to share the wealth that they are helping to create;" and 3) to "encourage the retention of key employees." See Administrative Guidelines of the Plan, at 1. The Plan created the Compensation Committee of the Board of Directors which had full authority and control over the Plan's administration and its assets. Defendants McCulloch and Ivey were the sole members of the Compensation Committee.

 The Plan operated on a fiscal year from August 1 through July 31. Following the close of each fiscal year, the Company allocated a percentage of its net profits to each Plan participant based on an annual assessment of shares. *fn1" The Company then announced the value of the shares for a given fiscal year in October following the close of that fiscal year. The participants became vested in their shares three and one-half years after the Company announced the share value, provided that the participant had remained continuously employed by the Company during that entire period. As originally designed, the Plan contemplated payment to each participant for their shares "within thirty (30) days of the end of each three and one-half (3 1/2) year award." Id. at 2. Payment would be equal to the originally calculated share value, plus two and one-half years of compounded interest, minus any applicable government withholding and Social Security taxes.

 In short, the Plan envisioned payments to participants after the participant completed the requisite three and one-half years of continuous employment after the Company announced the value of the shares. The Plan contemplated payment at that point irrespective of whether the participant remained in the Company's employ after completing the requisite time period.

 Nutri/System, however, could not fulfill the Plan's obligations. In March 1992, McCulloch announced that the Company had insufficient cash to make the 1992 Plan payments as scheduled. Similarly, in 1993 Nutri/System again lacked the funds to be able to meet the Plan's payment schedule. Plaintiffs allege that as of April 1, 1993, the amount of vested benefits owed to Plaintiffs totaled $ 12 million.

 On May 4, 1993, a petition for involuntary bankruptcy under Chapter 7 of the Bankruptcy Code was filed against Nutri/System. On June 4, 1993, the petition was converted to a voluntary petition under Chapter 11.

 B. Count One - ERISA

 Count one of the amended complaint alleges that Defendants violated ERISA by failing to fund the Plan and subsequently failing to pay benefits due to Plaintiffs under the Plan. However, we find that Nutri/System's Plan does not fall within ERISA's purview, and we must, therefore, dismiss count one.

 By its terms, ERISA applies only to "an employee welfare benefit plan or an employee pension benefit plan or a plan which is both." 29 U.S.C. § 1002(3). Thus, to establish statutory coverage, Plaintiffs allege that the Plan is an "employee pension benefit plan" as defined in ERISA.

 An employee pension benefit plan is defined as any program or plan "to the extent that by its express terms or as a result of surrounding circumstances" it:

 
i) provides retirement income to employees, or
 
ii) results in a deferral of income by employees for periods extending to the termination of covered employment or beyond,
 
regardless of the method of calculating the contributions made to the plan, the method of calculating the benefits under the plan or the method of distributing benefits from the plan.

 29 U.S.C. § 1002(2)(A).

 Plaintiffs argue that the Plan falls within this definition because the Plan resulted in a deferral of income to "periods extending to the termination of covered employment or beyond." However, as the case law and the applicable regulations demonstrate, Plaintiffs' argument is without merit.

 In a case similar to this one, the court in McKinsey v. Sentry Ins., 986 F.2d 401 (10th Cir. 1993), held that the company's "Golden Career Bonus Plan" was not governed by ERISA. The express terms of the plan provided that it was:

 
a deferred compensation plan for Sales Representatives for the sole purpose of promoting in career sales representatives the strongest interest in the successful operation of the Company, loyalty to the organization and increased effectiveness of their work by providing a method for sharing in the growth of the Company based upon the amount of sales credits they produce in accordance with the terms of the Plan.

 Id. at 406. Under the terms of the plan, an employee became eligible for bonus allocations after his or her first year anniversary with the company, and by the employee's seventh year, the bonus allocations would be 100 percent vested. Additionally, after five years, the employee could withdraw any portion of the vested allocation from her account. The plan also provided that all allocations would fully vest upon an employee's death or retirement, but, in the event of termination, the employee's right to nonvested allocations was terminated.

 The McKinsey court rejected plaintiff's argument that because a sales representative could defer payment of the bonus allocations until termination of employment to provide for retirement income, the bonus plan qualified as an employee pension benefit plan within the meaning of ERISA. Id. In so doing, the court relied on the applicable regulations promulgated by the Secretary of Labor which provide:

 
For purposes of title I of the Act and this chapter, the terms "employee pension benefit plan" and "pension plan" shall not include payments made by an employer to some or all of its employees as bonuses for work performed, unless such payments are systematically deferred to the termination of covered employment or beyond, or so as to provide retirement income to employees.

 Id. at 405 (quoting 29 C.F.R. § 2510.3-2(c) (emphasis added)). The court reasoned that because the plan did not systematically defer payments until retirement and the employee could withdraw allocations at any time during the course of employment, the plan was not an employee pension benefit plan. Id. at 406.

 Likewise, in Murphy v. Inexco Oil Co., 611 F.2d 570 (5th Cir. 1980), the court similarly rejected plaintiffs' argument that the plan, which was designed to provide employees with a bonus based upon performance, constituted a pension plan because the employees could possibly receive the proceeds after retirement. The court stated "the mere fact that some payments under a plan may be made after an employee has retired or left the company does not result in ERISA coverage." Id. at 575. The court further stated that under the regulations, some bonus plans would be covered by ERISA, but only those plans which payments were systematically deferred to the termination of covered employment or beyond, or so as to provide retirement benefits. Id. In light of the fact that under this plan, the benefits accrued once production by an employee began so as to provide employees with current income, there was no coverage by ERISA even though the employees might be paid after they retired or had left the company.

 Finally, in Hagel v. United Land Co., 759 F. Supp. 1199 (E.D. Va. 1991), the court also found the plan at issue was not covered by ERISA. The plan provided for bonuses based on an employee's performance to be paid over five years in five equal installments, which would commence the year that a certain real estate project (which had been developed by defendant company and the employee) closed. If however, the employee voluntarily resigned or was terminated, any installments that had not been paid out would be forfeited. Rejecting plaintiff's argument that the plan constituted an employee pension benefit plan, the court noted that the purpose of the plan was to provide the employee with income during his employment because plaintiff ...


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