Many employers are continuing the trend of outsourcing certain services or functions by subcontracting with a third party. However, the process of outsourcing often ends in terminations of employment which can give rise to lawsuits and claims under ERISA and other areas of the law.* A recent 8th Circuit case–Dallas D. Register, et. al. v. Honeywell Federal Manufacturing & Technologies, LLC, 2005 WL 367319 (8th Cir. 2005)–illustrates the exposure to lawsuits that outsourcing can bring under section 510 of ERISA. That provision prohibits an employer from discharging an employee for the purpose of interfering with the attainment of any right to which the employee may become entitled under an ERISA plan.
Oftentimes, employers will transfer the affected employees to a third party contractor so that employees continue their jobs, but end up working for a different employer. Many times, employees end up with “lesser” benefits in the process, i.e. higher health care premiums or less favorable health care benefits, lower pension and retirement benefits, and/or less attractive fringe benefits. If it can be shown that an employer’s desire to reduce benefits cost was a “determinative factor” in the decision to outsource, the employer could be exposed to liability under ERISA.
The Register case illustrates the type of situation which can give rise to a long drawn-out lawsuit under ERISA, but also demonstrates how one employer was able to defeat such claims in the end. The case is also instructive because it shows that, no matter how many extraordinary measures an employer may take to try to be fair to employees and to avoid such claims, an employer can still end up battling the claims in court.
The facts of the case, as set forth in the opinion, are as follows:
Honeywell, the original employer (a government contractor referred to as “GC”), managed and operated a plant for the Department of Energy (“DOE”). GC’s contract with DOE provided that the government paid all management and operation costs at the plant, including employee compensation and benefit costs, and GC received an incentive fee based on performance and other awards. Apparently, GC became dissatisfied with the performance of its facilities and utilities engineering groups which were responsible for onsite construction projects and facilities, and hired a consultant who identified the group as a potentially weak area which GC might want to consider outsourcing to improve quality.
In 2001, the facilities and utilities engineering functions were outsourced to Facilities and Engineering Services (“FES”), a subsidiary of the new employer (“Employer “) which had been created for this purpose. Several employees asked to be transferred to other positions within GC to avoid being outsourced, but GC placed restrictions on such transfers in order to ensure continuity of operations after the work was outsourced. GC then terminated the nine employees (who brought the suit) along with 46 others and all were offered employment at FES. The nine employees accepted the employment with FES and remained at their same desks at the GC facility and performed the same functions as they had when they worked for GC.
Regarding benefits, GC had a pension plan while the Employer did not. However, GC amended its pension plan to allow affected employees who were reaching a retirement milestone to receive an unpaid “bridge” leave of absence so they could reach the milestone. In addition, GC worked with the Employer to design a compensation and benefits package for the outsourced employees. The FES salary for each of the nine was equal to or greater than the salary received at GC, and FES employees were eligible for bonuses that were not available from GC. In addition, the Employer created two additional defined contribution plans for the FES employees. GC also commissioned a study of its benefits package compared to the one at FES. The first study indicated that the value of the FES package would be approximately 90% of GC’s. The Employer then enhanced the FES benefit package in response, with the result that the FES package was valued at 95% of GC’s or 105% if possible bonuses were considered.
So why did the employees sue? They claimed that they lost their right to future benefit accruals and their retiree medical benefits as a result of the outsourcing, and alleged that both DOE and GC benefited financially from the change. They pointed to DOE’s Annual Report on Contractor Work Force Restructuring which stated that employees had been outsourced from the GC plant and that the workforce restructuring produced savings for the government in salary and benefits from the outsourced positions in the amount of $5.7 million. The employees claimed that GC shared in any savings the government experienced by reducing costs, including employee benefits.
In an ERISA section 510 case, to overcome a showing of a section 510 violation, the employer must articulate a legitimate, nondiscriminatory reason for the outsourcing. If the employer does so, the burden shifts back to the employees to prove that the employer’s proffered reason was pretextual. In this case, the district court had opined that the employees showed that one of the two business reasons offered by GC for the outsourcing were pretextual, but the other was held not to be pretextual, so that the employer prevailed.
On appeal, the Court upheld the lower court’s finding that GC’s reasons for the outsourcing were legitimate and nondiscriminatory. GC had stated that its main reason for the outsourcing was “to maintain its contract with DOE.” The employees argued that GC’s restrictions on the internal transfers were evidence of pretext, but GC “produced evidence that the restrictions were put in place to ensure continuity of operations” and that it had “amended its pension plan to allow twenty-six of the fifty-five outsourced employees to reach a retirement milestone.” The Court cited the fact that GC had worked with the Employer to create a benefits package for the outsourced employees at FES that included higher salaries, the opportunity to earn bonuses, and two defined contribution plans funded by DOE. The Court also cited the study which was performed showing that the package was only 90% of GC’s and that it was enhanced to make it comparable or even better than GC’s if bonuses were included in the calculation.
Comment: It is obvious in this case that the plaintiffs thought they had a “smoking gun” in the DOE’s Annual Report discussed above, i.e. that the outsourcing had saved millions of dollar in costs, including benefits cost. However, here the employer was able to show legitimate business reasons for the outsourcing which were held not to be pretextual due to the many efforts on the part of the employer to provide comparable benefits.
More on outsourcing here and in this previous post–Outsourcing: Traps for the Unwary.
*The recent case of Millsap et al. v. McDonnell Douglas Corporation, 2003 WL 21277124 (N.D.Okla. 2003), resulted in a $36 million settlement for employees involved in a plant closing where employees alleged that the plant closing occurred as a result of the employer’s motivation to reduce benefits cost. Read about the case here and here.