A unit of JPMorgan Chase and Co. quietly paid a whopping $373 million arbitration award to the Kansas City-based American Century Investment family of funds last August — thought to be the largest legal award in Missouri history — to settle a dispute that flared into litigation in 2009, but had been kept confidential until last night. The dispute focused on a unit led at the time by J.E. (“Jes”) Staley, who is now CEO of JPM’s investment banking division.
The arbitrators concluded that JPM (JPM) had calculatedly breached a 2003 contract under which it had purchased American Century’s Retirement Plan Services division, which packages 401(k) plans for employers, in exchange for its commitment to sell and promote American Century investment funds as 401(k) products in those plans. In fact, the panel found, JPM promoted its own fund products to the detriment of American Century’s, and began planning to do so almost as soon as the contract was signed.
“JPM breached the contract over and over again,” the arbitrators wrote. “The email strings evidencing the breaches…are voluminous and consistent, and can lead to no other rational finding or conclusion.”
JPM had argued to the panel, unsuccessfully, that there were mainly just two ACI fund products that were possibly disadvantaged in any way, and JPM claimed that certain ACI funds had not been performing as well available alternatives.
Staley is the highest-level JPM official singled out for criticism in the ruling. He wore “two hats,” according to the arbitrators, in that he was JPM’s representative on the board of American Century’s parent company, American Century Companies (ACC) —with a fiduciary duty to serve American Century’s shareholders—at the same time he was CEO of JPM’s asset management division, whose products were found to be being improperly favored over American Century’s for inclusion in retirement plans.
Staley was not immediately available, and JPM did not offer a specific comment on his behalf. It did say: “The parties agreed at the onset to resolve this matter privately through arbitration. At this time we do not feel it is appropriate or necessary to reopen these arguments in a public forum.”
JPM consented last night to release the 72-page arbitration award, as well as a December Missouri state court order enforcing that award, to settle a court case which had been brought by Fortune’s publisher Time Inc., in January, to unseal the file. Time’s motion was due to be argued this Monday, March 26.
In a written statement, JP Morgan says, “We did not agree with the arbitrators’ decision, but paid the award.” The statement continues: “Since the arbitrators found in favor of American Century, JPMorgan’s point of view and arguments are not represented in the decision and award document. … It is important to note that any impact here was to American Century, not clients. The J.P. Morgan products were all competitive products and performing well versus peers.” (See full statement below.)
The award was reflected in the JPM asset management unit’s third-quarter 2011 financials as a non-interest expense for “non-client litigation,” JPM’s statement notes.
JPM acquired a 45-percent stake in American Century Investment’s parent company, American Century Companies, in January 1998. American Century is a private company founded by philanthropist James Stowers Jr., and its ACI unit now has $120 billion of assets under management.
JPM kept a big, but noncontrolling, position in American Century—ranging at times between 40% and 48%—until last August, when American Century exercised an option to buy back that stake and sell it to the Canadian bank CIBC for $848 million. The price of that sale, which closed last August 31, is now the subject of separate litigation that JPM brought against American Century in Delaware.
While JPM had hoped eventually to acquire all of American Century, according to the arbitrators—Connie L. Peterson and Louis A. Remele, Jr.—its main interest was its Retirement Plan Services (RPS) division, which packaged and marketed 401(k) plans to employers. That unit offered employers a lineup of investment funds from which their employees could choose where to invest their retirement funds, and the lineup would give some preference to “house funds”—funds run by ACI—as long as those funds met certain performance criteria. JPM had not previously had this sort of unit—known as a record-keeping platform—which was a powerful distribution platform for house funds. It was expensive to run, however, and ACI wanted to share the costs of running it, while JPM wanted to share in the benefits of being able to market its funds as house brands.
In June 2003 the relationship between ACI and JPM expanded. JPM acquired the Retirement Plan Services unit outright at that point, while contracting to continue to sell and promote ACI’s funds as house funds in its 401(k) plans. The cash portion of the RPS acquisition price was just $13 million, with almost all of ACI’s remaining compensation expected to come from future revenue derived from JPM’s continuing promotion of its house funds.
The arbitrators found, however, that by July 2003—just one month into the agreement—JPM was already contemplating hobbling at least one ACI fund and developing its own as a replacement. The arbitrators suggested that part of JPM’s motive—in addition to maximizing its own revenues through preferential use of its own funds—was to keep ACC’s share price low so that it would be cheaper for JPM to acquire the remainder of ACC’s stock. The arbitrators found that JPM’s motive to market its house brands rather than ACI’s was exacerbated after JPM’s merger with Bank One in January 2004, which gave JPM additional funds that competed more directly with ACI’s. The arbitrators said that Staley “misunderstood the … agreement he had negotiated,” mistakenly believing that it placed a cap on JPM’s liability in the event that JPM breached its obligations.
In April 2009, ACI filed suit (under seal) against JPM’s investment unit in state court in Kansas City, alleging breach of contract, fraud, and breach of fiduciary duty. The last two claims—being torts—carried the potential for punitive damages.
Staley flew to Kansas City, according to the ruling, and negotiated a partial settlement, which was signed in July 2009. Under its terms the companies negotiated an effective divorce, which ended JPM and ACI’s reciprocal obligations relating to the Retirement Plan Services unit, and also gave American Century the option to buy back or sell JPM’s entire stake. At the same time, American Century agreed to drop its tort claims—the ones with punitive damages potential—and to submit the contract claim to confidential arbitration.
That arbitration was completed on August 10, 2011, with the panel awarding $373 million to American Century. JPM contested the validity of the arbitration award before a state judge in Independence, Missouri, but that judge confirmed the award in December. With accrued interest, JPM paid $384 million.
American Century was represented in its arbitration against JPM by Randy Hendricks of Rouse Hendricks German May in Kansas City. JPM’s investment unit was represented there by New York’s Cahill Gordon & Reindel.
JPMorgan’s full statement:
∙ In 2009, J.P. Morgan and American Century agreed to resolve through arbitration certain contract disputes arising from a 2003 agreement in connection with J. P. Morgan’s acquisition of its retirement plan services business.∙
∙ The arbitrators ruled in American Centuries’ favor in August of 2011. We did not agree with the arbitrators’ decision, but paid the award.
∙ This award ($373 million) was reflected in earnings in Asset Management’s Q32011 financials as a non-interest expense for “non-client litigation”
∙ Regarding the Delaware suit, we cannot comment as the litigation is still pending, but we are pursuing our own complaint regarding breaches of our option agreement.
Since the arbitrators found in favor of American Century, JPMorgan’s point of view and arguments are not represented in the decision and award document. The parties agreed at the onset to resolve this matter privately through arbitration. At this time we do not feel it is appropriate or necessary to reopen these arguments in a public forum. Now that the matter is concluded, we have voluntarily agreed to release information related to the matter. Regarding the issues in the arbitration, we feel it is important to note that J.P. Morgan products compete with proprietary and non-proprietary products on a regular basis. Proprietary products are subject to a higher level of scrutiny by our own employees, clients and advisors than non-proprietary products. As investment and retirement service professionals, we fully stand behind our products, services and business practices in this regard.
It is important to note that any impact here was to American Century, not clients. The J.P. Morgan products were all competitive products and performing well versus peers.