The D & O Diary : Directors and Officers Liability and Insurance : The D & O Diary : Kevin LaCroix : Securities Laws, Corporate Fraud, D & O Litigation

Vivendi lost the liability phase of the securities class action jury trial, and now it has lost a rearguard action to try to have French investors excluded from the U.S. investor class. According to press reports (here and here), Judge Jean-Claude Magendie of the Court of Appeals of Paris ruled on April 28, 2010 that Vivendi can’t block French investors from participating in the U.S. class action lawsuit.

The U.S. class action lawsuit involved the financial impact on the company from the $46 billion December 2000 merger between Vivendi, Seagram’s entertainment businesses, and Canal Plus. The plaintiffs contended that as a result of this and other debt-financed transactions, Vivendi experienced growing liquidity problems throughout 2001 that culminated in a liquidity crisis in mid-2002, as a result of which, the plaintiffs contend, Vivendi’s CEO Jean-Marie Messier and CFO Guillaume Hannezo　were sacked.

The plaintiffs contended that the between October 2000 and July 2002, the defendants misled investors by causing the company to issue a series of public statements "falsely stating that Vivendi did not face an immediate and severe cash shortage that threatened the Company's viability going forward absent an asset fire sale. It was only after Vivendi's Board dislodged Mr. Messier that the Company's new management disclosed the severity of the crisis and that the Company would have to secure immediately both bridge and long-term financing or default on its largest credit obligations."　

The long-running case resulted in a January 2010 jury verdict against the company on all 57 counts, as discussed here. Damages are yet to be awarded.

In the French court action, Vivendi sought to reduce the number of investors who could claim an award from the class action lawsuit. According to Bloomberg (here), about two-thirds of the members of the U.S. plaintiff class live in France. The same article states that the French court noted the "serious ties existing" between the French company, French investors and the U.S.

Significantly, the court restricted its opinion to the question whether the French investors could participate in the action, and did not reach the question whether French courts would enforce any eventual award.

This latter question of enforceability is particularly critical in this case, as Judge Richard Holwell in his March 22, 2007 order certifying the class had included investors from certain countries (including France) and excluded investors from other countries (such as German and Austria) based on his assessment of whether or not the judgment of a U.S. court in a securities class action lawsuit would be enforceable in the various countries.

In an April 28, 2010 press release (here), Vivendi said that it "regrets that the Court of Appeal has decided not to make a ruling at this stage on the question of whether American class actions were in accordance with French public policy."

The press release also states that no judgment has been rendered in the U.S. court action, which the company intends to appeal.

In a March 1, 2010 press release (here), the company announced that it had created a reserve of 550 million euros ($723 million) "with respect to the estimated damages, if any, that might be paid to the plaintiffs." The company added that "the amount of damages that Vivendi might have to pay the class plaintiffs could differ significantly, in either direction, from the amount of the reserve."

• Email This
• Print
• Comments
• Trackbacks
• Share Link

In a April 26, 2010 opinion (here) that could have significant implications for motions to dismiss in the many subprime-related securities actions pending against the rating agencies, Southern District of New York Judge Schira Scheindlin rejected the arguments of Moody’s and S&P that the action investors in the Rhinebridge structured investment vehicle (SIV) should be dismissed because the investors’ losses were caused the global credit crisis rather than those firms’ investment ratings.

Background

The investor plaintiffs had filed a putative class action lawsuit for common law fraud in connection with the collapse of Rhinebridge. The action was brought against IKB Deutsche Industriebank AG and related entities; the rating agency defendants, including Moody’s and S&P; and certain individuals. (If IKB’s name sounds familiar, that is because it was one of the principal buyers in the now infamous Abacus transaction at the heart of the SEC’s action against Goldman Sachs.)

The plaintiffs contend that the defendants fraudulently misrepresented the value of Rhinbridge and its Senior Notes. These misrepresentations took the form of the high credit ratings assigned to the Notes. The Notes’ triple A ratings allegedly conveyed to investors that they were highly credit worthy and exceptionally strong, but also allegedly concealed that Rhinebridge’s portfolio actually consisted of toxic assets that were heavily concentrated in the structured finance and subprime mortgage industries. The Notes were downgraded in October, Rhinebridge entered receivership and the investors lost million of dollars.

S&P and Moody’s moved to dismiss on the grounds that plaintiffs allegations were insufficient to demonstrate loss causation, in that they failed to account for the global liquidity crisis that began in the summer of 2007.

The April 26 Opinion

Judge Scheindlin rejected the defendant rating agencies’ loss causation argument, observing that "to hold that plaintiffs failed to plead loss causation solely because the credit crisis occurred contemporaneously with Rhinebridge’s collapse would place too much weight on one single factor and would permit S&P and Moody’s to blame the asset-backed securities industry when the their alleged conduct plausibly caused at least some portion of plaintiffs’ losses."

She added that "even if the existence of the credit crisis—standing alone – could be enough to defeat a plaintiffs’ pleading of loss causation, it is not apparent that the credit crisis was the sole cause of Rhinebridge’s collapse."

Judge Scheindlin also noted that "S&P and Moody’s may yet prevail at a later stage in this case," adding that "if defendants ultimately prove that plaintiffs’ losses were, in fact, cause entirely by an intervening event, then defendants will prevail either at summary judgment or at trial."

Judge Scheidlin declined to find, as plaintiff had urged, that the rating agencies were "one of the major causes" of the global financial crisis. She observed that:

Blame for the financial crisis can be, and had been, spread globally – from the financial sector’s increasingly complex financial products, to mortgage originators, to the government’s loosened regulatory practices and its failure to respond to the collapse and substantial weakening of multiple financial powerhouses. While the Rating Agencies’ actions may have been a "substantial factor" causing the loss, that is not tantamount to labeling their conduct a "major cause" of the global financial crisis.

Discussion

While numerous subprime and credit crisis-related lawsuits have been filed against the rating agencies have been filed and are slowly working their way through the courts, the fundamental questions of whether and under what circumstances the rating agencies might be held liable to investors are yet to be worked out.

Even before those basic liability issues can be addressed, the threshold pleading issues still have to be sorted out. Judge Scheindlin emphatically did not hold that the rating agencies can be liable. However, her April 26 opinion does represent a strong signal that the rating agencies will not get off the hook merely because there was a larger financial crisis beyond the rating agencies’ actions in connection with the specific transactions.

To put everything under the heading of the credit crisis, Judge Scheindlin held, would be to permit the rating agencies to "blame the asset-backed securities industry when the alleged conduct plausibly caused at least some proportion of plaintiffs’ losses."

So it remains to be seen whether the rating agencies may be held liable. But Judge Scheindlin’s opinion suggests that the rating agencies will not be able to get the cases against them dismissed on the simple theory that the credit crisis and not their rating actions caused investor losses, where plaintiffs have plausibly alleged that the rating agencies cause some proportion of the losses.

This holding potentially removes at least one threshold barrier to the question of ultimate liability, at least for purposes of the pleading stages, and reduces the extent to which the rating agencies may be able to rely on the "coincidence" of the global credit crisis as an out from the cases against them.

For my discussion of Judge Scheindlin’s opinion in a separate subprime lawsuit against the rating agencies in which, on the facts alleged, she held that the rating agencies were not entitled to dismissal on the grounds that their ratings were protected by the First Amendment, refer here.

The WSJ.com Law Blog’s post on Judge Scheindlin’s opinion can be found here. Andrew Longstreth’s April 27, 2010 Am Law Litigation Daily article about the decision can be found here. .

• Email This
• Print
• Comments
• Trackbacks
• Share Link

A unanimous U.S. Supreme Court held on April 27, 2010 that the shareholder lawsuit arising from Merck’s alleged misrepresentations regarding Vioxx is not time-barred by the applicable statute of limitations. A copy of the Court’s opinion can be found here.

Background

In an action filed in November 6, 2003, the plaintiffs had contended that the company knowingly misrepresented the risk of using Vioxx, and that when the risks were disclosed the company’s share price fell. Merck claims that more than two years prior to the filing the plaintiffs had or could have discovered the "facts constituting the violation, and therefore was barred by the applicable statute of limitations.

The District Court granted Merck’s motion to dismiss, holding that events more than two years prior to the filing should have alerted the plaintiffs to the possibility of a misrepresentation, placing the plaintiffs on "inquiry notice."

The Third Circuit reversed the district court, holding that while events more than two years prior to the filing constituted "storm warning," the events did not suggest scienter, and consequently did not put the plaintiffs on "inquiry notice."

Merck filed a petition for writ of certiorari to the U.S. Supreme Court, and the Supreme Court agreed to hear the case.

The Supreme Court’s Holdings

Justice Breyer's opinion for the Court (with separate concurring opinions by Justices Stevens and Scalia) affirmed the Third Circuit and held that the plaintiffs’ complaint was timely.The Court’s opinion reflected several specific holdings.

First, the Court held that the statute’s requirement of filing within two years of "discovery" encompasses "not only facts plaintiff actually knew, but also those facts a reasonably diligent plaintiff would have known." (This is the portion of the opinion in which the concurring Justices did not join. Justice Stevens said this finding was not necessary to the Court’s holding. Justice Scalia, joined by Justice Thomas, disagreed with this part of the opinion while joining the Court’s holding.)

Second, the court held that the "discovery" of the facts that "constitute the violation" required the discovery of scienter-related facts. The Court found that "it would frustrate the very purpose of the discovery rule … if the limitations period began to run regardless of whether a plaintiff had discovered any facts suggesting scienter," as otherwise a defendant could conceal that he made a misstatement with an intend to deceive, and the two-year limitations period would expire before the plaintiff had actually discovered the fraud.

In reaching this conclusion about what is required to trigger the running of the statute of limitations, rejected Merck’s argument that the statute of limitations could begin to run once plaintiffs were on "inquiry notice." The court observed that the "terms such as ‘inquiry notice’ and ‘storm warnings’ may be useful to the extent that they identify a time when the facts would have prompted a reasonably diligent plaintiff to begin investigating," but in any event the "limitations period does not begin to run until the plaintiff thereafter discovers or a reasonably diligent plaintiff would have discovered the facts ‘constituting the violation,’ including scienter."

Finally, the Court rejected Merck’s argument that pre-November 2001 circumstances "reveal ‘facts’ indicating scienter," concluding that prior to November 6, 2001, "the plaintiffs did not discover, and Merck has not shown that a reasonably diligent plaintiff would have discovered, the ‘facts constituting the violation.’" Thus, the Court concluded, the "plaintiffs’ suit is timely."

Discussion

In a sense the issues addressed in the Court’s opinion are narrow and technical. In the vast scheme of things, statutes of limitations issues arguably might not affect many securities lawsuits, many of which historically have been filed shortly after the news triggering a sharp stock price drop, when, as is usually alleged, the truth was revealed to the marketplace.

However, there are at least a couple of current circumstances that may make the Supreme Court’s opinion in the Merck case particularly relevant just now.

First, since the second half of 2009, there have been an increasing number of case filings in which the filing date has come well after the proposed class period cutoff date. The later in time the filing date occurs, the likelier it is that statute of limitations issues could become relevant. Clarity around the issue of what triggers the running of the ’34 Act’s two-year statute of limitations, and particularly the clarification of the requirement for the discovery of facts constituting scienter, may help courts dealing with these belated cases to determine timeliness issues.

A second and perhaps more important reason the Court’s holding in Merck could prove relevant just now has to do with the continuing litigation arising out of the subprime meltdown and the credit crisis. As we move forward in time and the crisis-related events recede further into the past, additional filings increasingly may raise questions of timeliness. Statute of limitations questions are already arising in some of these cases, as I discussed in a recent post (here), and they are increasingly likely to arise in future cases.

The Merck opinion’s clarification of what is required to trigger the running of the statutue of limitations will help sort out these issues. In particular, the Court’s clarification that facts constituting "inquiry notice" and "storm warnings" alone are not sufficient to trigger the running of the statute could be particularly significant.

One final thought about this case is that the Court’s opinion definitely is helpful to the plaintiffs. In recent years, the Court has developed a reputation as hostile to private securities lawsuits. Without a doubt, the Court has issued a series of decisions (Tellabs, Stonridge, Twombley/Iqbal, Dura, etc.) that have proved helpful to defendants. But the Court’s opinion in the Merck case is not only helpful to the plaintiffs in that case but it likely will prove useful to plaintiffs in other cases as well.

Honestly, I didn’t see this coming. I thought, given the Court’s recent track record and given what I thought was the common sense notion that the Court would not grant cert just to affirm the Third Circuit, I thought this case would likely lead to a victory for Merck in another defense friendly decision. Instead, the plaintiffs prevailed in a unanimous holding. Maybe my presumptions were completely off base, but I still find the outcome interesting and a little unexpected.

Special thanks to the several readers who sent me copies of the opinion.

• Email This
• Print
• Comments (2)
• Trackbacks
• Share Link

The SEC’s high-profile enforcement action against Goldman Sachs and one of its investment bankers may or may not revitalize the waning subprime and credit crisis-related litigation wave, but it has at least sparked an outbreak of follow on civil litigation against Goldman Sachs.

According to their April 26, 2010 press release (here), plaintiffs’ lawyers have filed a securities class action lawsuit in the Southern District of New York against Goldman and certain of its directors and officers. According to the press release, the complaint (which can be found here) alleges that the defendants failed to disclose that:

(i) the Company had, in violation of applicable law, not fully disclosed the facts and circumstances concerning the formation and sale of the ABACUS 2007-AC1 deal to investors such that it had engaged in misleading conduct; (ii) the Company had, in fact, bet against its clients and constructed collateralized debt obligations that were likely, if not designed, to fail; and (ii) the Company had received a Wells Notice from the SEC about the ABACUS transaction but failed to inform shareholders of this fact.

The complaint further alleges that April 16, 2010, Goldman was sued by the SEC "for making materially misleading statements and omissions in connection" with ABACUS 2007-AC1. Following this announcement, Goldman’s stock price fell $24.05, declining from $184.27 per share on April 15, 2010 to close at $160.70 per share on April 16, 2010.

A key issue in this new lawsuit will be Goldman's alleged failure to disclosure the existence of the Wells Notice. Which of course begs the question of whether or not Goldman had any obligation to disclosure the existence of the Wells Notice. There is no bright line rule on this issue, it is a question of materiality. But as Michelle Leder points out on the Footnoted blog (here), lost of other companies do routinely disclose Wells Notices. A post on the Westlaw Business Currents blog (here) is very much to the same effect, that is, that whether or not Wells Notice disclosure is requrired, many companies do disclose Wells Notices.

The securities class action lawsuit filing follows close on the heels of the filing late last week of two separate New York state court shareholders’ derivative lawsuits against Goldman, as nominal defendant, and certain of its directors and officers. According to April 23, 2010 press reports (refer here), the complaints allege that:

The individual defendants engaged in a systematic failure to exercise oversight of the company's 23 Abacus transactions, which were completed over a three and half year period. As a direct and legal result of the individual defendants' wrongful conduct, Goldman Sachs has been significantly and materially damaged, faces billions of dollars of liability, has incurred and will continue to incur millions of dollars of expense in defending claims against the SEC and investors, and has suffered serious damage to its reputation and image.

The same press reports also quote a leading plaintiffs’ securities class action attorney as saying that "I suspect every major pension fund in America" is considering suing Goldman Sachs "over the conduct that occurred."

I have added the new Goldman lawsuit to my running list of subprime and credit crisis-related securities class action lawsuits, which can be accessed here. SInce I first began compiling the list almost exactly four years ago, there have been a total of 210 subprime and credit crisis-related securities suits filed, of which eight have been filed so far this year.

A WSJ.com Law Blog post about the Goldman securities class action lawsuit can be found here. Bloomberg’s article about the lawsuit can be found here.

More About Goldman Sachs and D&O Claims: An April 26, 2010 National Underwriter article by Susanne Sclafane entitled "Long-Awaited SEC Action Emphasizes Need for More D&O Cover, Lawyer Says" (here) presents a lengthy discussion of the possible D&O claims implications from the recent SEC action against Goldman Sachs, as well as any follow on private litigation. The article also contains an extensive summary of the recent Advisen conference call regarding first quarter securities litigation trends.

As for the question of potential insurance coverage for the SEC’s claims and for other claims that filed against Goldman Sachs, an April 26, 2010 Business Insurance article by Roberto Ceniceros entitled "Goldman Legal Woes Could Hit Insurers" (here) explores the issues that could affect the availability of coverage under Goldman’s D&O insurance program. An April 24, 2010 Bloomberg article on the same topic can be found here.

The April 26, 2010 issue of Business Insurance also has an article by Zack Phillips entitled "Subprime Rulings Favor Defendants" (here), discussing recent trends in subprime and credit crisis lawsuit dismissal motion rulings.

Developments on the D&O Claims Front: In Chubb’s April 22, 2010 quarterly earnings conference call (a transcript of which can be found here), Chubb Vice-Chairman John Degnan had the following to say about D&O claims trends:

I am particularly pleased about developments in two areas I want to mention specifically, the frequency of non-credit crisis security class action claims and the recent rulings in credit crisis derivative actions.

For the second straight quarter, even as the number of new credit crisis security class actions virtually disappeared we did not see a corresponding increase in the number of non-credit crisis class actions. So for those observers who have speculated that there was a substantial number of backlog claims waiting to be filed, the evidence so far doesn’t support that. And, the two year statute of limitations is already a bar to actions in which the triggering event, typically a corrective disclosure took place in 2007 and early 2008, the years in which that presumed backlog would have been building.

In addition, we’re encouraged by the continuing relatively high dismissal rate in the first quarter of derivative actions which might otherwise trigger our side A coverages. Unlike the stock option back dating claims which were heavily weighted towards derivative actions, credit crisis claims have been predominately securities class actions. However, in connection with the credit crisis derivative claims which have been brought, we are seeing the allocation of well established legal protections governing mismanagement allocations and the defendants are having great, in some cases even unexpected success in defending those claims.

For example, in the recent decision involving AIG’s credit crisis woes, the court has made it clear that they will not engage in second guessing managements’ legitimate business decisions regardless of how badly those decisions played out. So, although some observers have asserted that credit crisis derivative claims have the potential to impact side A coverages, we are not currently seeing an increased level of exposure as a result of them.

Ordinarily I would not include on this blog anything as insurer-specific as a single company’s earnings conference call transcript, and I do not intend to comment on Chubb’s quarterly results here. I included this selection from the conference call transcript because I have a couple of thoughts about Mr. Degnan’s claims trend observations.

I should emphasize at the outset that in adding my comments that I mean no disrespect to Mr. Degnan, for whom I have nothing but the highest admiration and respect. Moreover, I fully recognize that Mr. Degnan’s comments were made in reference to his own company’s experience, rather than as a general matter. But with respect to more general trends, I do have a few observations.

There is no doubt that securities class action lawsuit filings were down during the first quarter as has been noted elsewhere. However, by my count there have been eight securities class action lawsuits filed so far in 2010 (out of about 40 lawsuit total YTD) in which the filing date was more than a year after the proposed class period cutoff. That 20% of all filings YTD were belated suggests to me that the belatedness of securities lawsuit filing, which first became pronounced in the second half of 2009, has continued into 2010. My earlier post about belated 2010 securities lawsuit filings can be found here.

I agree with Mr. Degnan that so far the credit crisis-related derivative suits have not gone particularly well for the plaintiffs. But as for the potential risks for the Side A product line in general as a result of derivative litigation activity, it is important to note that when derivative cases survive the initial pleading hurdles, they are increasingly costly to settle, and when they do settle, increasingly they are producing Side A losses.

The best illustration of this latter point is the $118 million settlement in the Broadcom options backdating derivative lawsuit, to which Excess Side A insurers contributed $40 million. Admittedly, the Broadcom settlement was not credit crisis related but it still represents a very significant development. (Perhaps Mr. Degnan can be forgiven for neglecting to mention the case, however, since his company is one of the few D&O insurers that did not participate in the Broadcom’s Side A tower.)

In any event, the most significant risk to the Side A product line is from insolvency related claims, not derivative claims. In the current economic environment, bankruptcy related claims remain a significant threat.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

The conventional view is that plaintiffs may be faring poorly in many of the subprime-related cases. However, plaintiffs have in fact been doing relatively better in ’33 Act claims brought by purchasers of mortgage-backed securities. A recent ruling in the Wells Fargo Mortgage-Backed Certificates Litigation, in which a significant number of plaintiffs’ claims survived the defendants’ motions to dismiss, continues this trend of relatively favorable rulings in these cases. In addition, as also discussed below, the plaintiffs in the Lincoln National subprime related ERISA class action also recently survived dismissal motions.

Wells Fargo Mortage-Backed Certificates: In an April 22, 2010 order (here), Northern District of California Judge Susan Illston granted in part and denied in part the defendants motions to dismiss in the subprime-related Wells Fargo Mortgage-Backed Certificates securities class action lawsuit.

Purchasers of the mortgage pass-through certificates had filed their lawsuit in March 2009, alleging that the offering documents contained misrepresentations and omissions. The plaintiffs alleged that the documents misstated Wells Fargo’s underwriting processes and loan standards; falsely stated the appraisal value of the underlying mortgaged properties; and misstated the investment quality of the securities, which had been assigned the highest ratings regardless of the lower quality of the underlying mortgages.

In her April 22, 2010 order, Judge Illston granted the defendants motions to dismiss, for lack of standing, plaintiffs’ claims based relating to 37 out of the 54 referenced offerings in which the named plaintiffs had not purchased securities. She also granted the rating agency defendants’ motions to dismiss the plaintiffs’ claims against them, holding (in reliance on Judge Lewis Kaplan’s February 1, 2010 ruling in the Lehman Brothers case) that the rating agencies were not underwriters within the meaning of the ’33 Act.

As to the 17 offerings in which the plaintiffs had purchased securities, Judge Illston denied the remaining defendants’ motions to dismiss, holding that the plaintiffs, in reliance on confidential witness testimony, had adequately alleged misrepresentations in connection with the defendants’ underwriting practices, improper appraisal practices, and the process by which the securities obtained their investment ratings.

One particularly interesting part of Judge Illston’s opinion related to the defendants’ motions to dismiss the plaintiffs’ claims based on the statute of limitations. Plaintiffs first filed their complaint in March 2009. In order to avoid the statute, the plaintiff claims would "have to have accrued no earlier than March 27, 2008 to be timely." The defendants argued that due to widespread press coverage the plaintiffs were put on inquiry notice of problems involving mortgage-backed securities well before March 2008. Judge Illston found these arguments "unpersuasive" noting that the news articles on which the defendants relied "give rise to competing inferences."

Lincoln National ERISA Class Action: In an April 20, 2010 order (here), Eastern District of Pennsylvania Judge Anita Brody denied the defendants’ motions to dismiss the subprime related ERISA lawsuit that had been brought on behalf of two Lincoln National benefit plans.

During 2008 and 2009, Lincoln National had sustained heavy losses in its investment portfolio because of investments in mortgage-backed securities, structured investment products, and other derivative securities, including collateralized debt obligations. As the company sustained these investment losses, its share price declined substantially. The plaintiff alleged that because the defendants knew or should have known of the company’s exposure to investment losses, it was imprudent to continue to invest plan assets in the company’s stock. The plaintiff also alleged that the defendants’ failure to disclose the company’s exposure to investment losses prevented the plan participants from making informed investment decisions.

The defendants moved to dismiss, arguing first that because the plans were Employee Stock Ownership Plans, the plan fiduciaries are entitled to a presumption of prudence for the decision to invest in employer securities. The plaintiff argued that the presumption was inapplicable because the plan fiduciaries had discretion whether to offer the company stock as an investment options. The court found that the plaintiff had alleged sufficient facts to overcome the presumption, citing the alleged precipitous decline in the company’s stock, the defendants’ knowledge of the impending collapse and the defendants’ conflicted status.

In reaching this conclusion, Judge Brody noted that the complaint contains "specific allegations explaining why Defendants knew or should have known that the value of the LNC common stock would seriously deteriorate." She specifically referred to the complaint’s allegations that "Defendants knew or should have known of the Company’s exposure to losses in its investment portfolio due to declines in subprime and Alt-A residential mortgage-backed securities, the Company’s exposure to losses in its investment portfolio due to equity investments in troubled markets, and the Company’s exposure to decreasing capital levels."

In denying the motion to dismiss on this ground, Judge Brody commented that the plaintiff "faces a heavy burden going forward" as the "presumption of prudence is a difficult standard to overcome." She noted that the complaint "alleges sufficiently dire circumstances that might cause a prudent plan fiduciary to discontinue" the investment option in company stock.

Judge Brody also found that the plaintiff had adequately alleged claims that the documents distributed to plan participants contained materially misleading statements. However Judge Brody granted the defendants’ motion to dismiss on the plaintiff’s failure to disclose claim, holding that the plan documents "adequately informed plan participants about the risk inherent in investing solely in employer securities."

Discussion

The court’s holding in the Wells Fargo case is largely consistent with other recent dismissal motion rulings in ’33 Act claims involving mortgage-backed securities. It now seems to be fairly well established that plaintiffs are not going to be allowed to assert claims in connection with offerings in which they did not purchase securities. However, dismissal motions apparently will be denied where the plaintiffs have alleged that offering document statements about mortgage originating practices were misleading, at least when the plaintiffs allege in reliance on confidential witness testimony that the mortgage originator systematically disregarded its underwriting guidelines.

The statute of limitations issue in the Wells Fargo case is interesting. Judge Illston’s holding that the plaintiffs had not been put on inquiry notice in March 2008 raises the interesting question of when prospective plaintiffs were put on inquiry notice. At some point during 2008, as the financial markets deteriorated and then nearly collapsed, mortgage-backed securities investors clearly were on inquiry notice about possible problems in the mortgage securitization industry. Perhaps another case will narrow down that 2008 inquiry notice date. At a minimum by September 2008 when Lehman Brother collapsed and AIG had to be bailed out, the cat was clearly out of the bag.

The practical reality that there is some date during 2008 when the plaintiffs undeniably were on inquiry notice provides at least one explanation why the number of new subprime-related securities class action lawsuit filings began to decline. Clearly, the plaintiffs’ lawyers have no interest in brining claims that will likely be found to be time barred. Of course, as time goes on, the dates on which the toxic offerings took place recedes further and further into the past, and so that is one reason why, notwithstanding the dramatic recent allegations in the SEC’s enforcement action against Goldman Sachs may unlikely to generate a wave of new subprime related securities suits.

There is one interesting side note in the SEC’s complaint against Goldman Sachs that is tangentially related here. The SEC alleges that as Paulson company representative and ACA, the portfolio selection manager, worked out which securities would be included in the Abacus CDO, the Paulson representative deleted eight mortgage backed securities that had been issued by Wells Fargo. The SEC’s complaint alleges in paragraph 34 that "Wells Fargo was generally perceived as one of the higher-quality subprime loan originators."

It is probably cold consolation to the investors in the Wells Fargo securities that Wells Fargo’s mortgages were then perceived as sufficiently durable that Paulson didn’t want securities backed by those mortgages in his "built to fail" CDO. The money those investors lost on their investment hurt them every bit as badly as the money that investors in other securities lost hurt them. It is probably some measure of how widespread the subprime meltdown was that even securities perceived as stronger still produced significant losses for their investors.

As for the Lincoln National decision, this is the latest in a series of subprime-related ERISA class action lawsuit dismissal motion rulings suggesting that ERISA claims may be more likely to survive dismissal motion rulings. The most extreme example of this is in connection with NovaStar Financial, where the securities class action lawsuit was dismissed (and indeed the dismissal was affirmed by the Eighth Circuit), yet the NovaStar ERISA lawsuit survived the dismissal motion. At one level this is hardly surprising since ERISA plaintiffs, unlike securities plaintiffs, do not have to allege scienter, among other things.

The Lincoln National case does represent an interesting example of a lawsuit against a company not for its involvement as a mortgage industry participant or a mortgage securitization producer, but rather as a mortgage backed security investor. When losses are sufficiently widespread, the lawsuits go in every direction. Though Lincoln National is among the defendants in this ERISA case, it could well be a claimant in other mortgage-backed securities lawsuits, owing to the losses in its investment portfolio.

I have in any event added these two decisions to my running tally of subprime-related lawsuit dismissal motion rulings, which can be accessed here.　

• Email This
• Print
• Comments
• Trackbacks
• Share Link

Madoff Investor Lawsuit Against the SEC Dismissed: In an April 20, 2010 order (here), Central District of California Judge Stephen V. Wilson granted the motion of the SEC to dismiss the suit brought against the agency by Madoff investors under the Federal Tort Claims Act.

The investors had alleged that the SEC "owed a duty of reasonable care to all members of the general public" and that the agency’s negligent acts and omissions "caused Madoff’s scheme to continue, perpetuate and expand," alleging specifically that the SEC "failed to terminate Madoff’s Ponzi scheme despite multiple opportunities to do so."

The SEC moved to dismiss arguing that the court lacked jurisdiction over the FTCA claims, due to the statute’s "discretionary function exception," which bars federal courts from adjudicating tort actions arising out of federal officers’ discretionary acts.

Judge Wilson said that the plaintiffs’ allegations "identify decisions that, in hindsight, could have and should have been made differently," while others "reveal the SEC’s sheer incompetence." However, Judge Wilson also found that the complaint lacks "any plausible allegation revealing that the SEC violated its clear, non-discretionary duties." Judge Wilson granted the motion to dismiss, but did grant the plaintiffs 30 days leave to amend their complaint to attempt to allege that "the SEC failed to conform to its mandatory duties."

It won’t help them overcome the jurisdictional hurdle, but the plaintiffs undoubtedly will be tempted to allege in their amended complaint that at the same time the agency failed to investigate Madoff, senior SEC enforcement department attorneys were spending up to eight hours a day viewing pornography on their work computers.

An April 22, 2010 Law.com article about the ruling in the Madoff investors’ lawsuit against the SEC can be found here.

D&O Dispute Over Stanford Defense Fees to be Heard in September: In an April 21, 2010 order (here), Southern District of Texas Judge Nancy Atlas set a September 1, 2010 date for the commencement of the hearing on the motion for preliminary injunction of jailed financier R. Allen Stanford and three others to compel the Stanford Group’s D&O insurers to fund the individuals’ defense against criminal allegations. The insurers contend that coverage under the policy is precluded by the policy’s money laundering exclusion.

As readers will recall, on March 15, 2010, the Fifth Circuit had remanded the coverage dispute back to the district court for a factual determination whether or not the money laundering exclusion has been triggered (that is, whether or not there has "in fact" been money laundering as that term is defined in the policy). The Fifth Circuit also ruled that the insurers must continue to advance defense expense until the factual determination has been made.

Judge Atlas’s scheduling order not only establishes the schedule for the evidentiary ruling but also sets a schedule for factual discovery as well. It seems probable that at some point fairly early in the discovery process, one of the individual defendants will feel compelled to take the fifth in response to a deposition question. Similarly the individuals are likely at the September hearing to assert their Fifth Amendment rights from the witness stand.

While an individual’s assertion of their Fifth Amendment rights cannot be held against them in a criminal trial, there is substantial precedent that in a civil trial a finder of fact can draw "adverse inferences" from an individual’s assertion of their Fifth Amendment rights. The individuals and their attorneys will face the formidable challenge of attempting to establish that there was no money laundering within the meaning of the policy without themselves being able to testify on their own behalf.

In any event, as reflected in the April 22, 2010 Law.com article about Judge Atlas’s scheduling order (here), the September hearing "could give a preview of the criminal trial in January."

Abacus: Sung to the Tune of "Springtime for Hitler"?: A loyal reader alerted me to the following letter to the editor that appeared in the April 24, 2010 New York Times:

The investment deal that Goldman Sachs created sounds like something out of the Mel Brooks show "The Producers": plotting to make more money with a flop than with a hit!

Daniel Pitt Stoller
Bayside, Queens, April 19, 2010

Mr. Stoller’s letter is pretty funny. While I appreciate the humor of his comment, I do think it unintentionally points out something about the infamous Abacus deal that, in light of intervening events, might be easy to overlook.

The fact is that, in the Mel Brooks movie, "Springtime for Hitler" turned into an unexpected hit, even though, like the Abacus CDO, it was "built to fail."

John Paulson may well have felt confident that a mortgage meltdown was coming, but as Max Bialystock found out in the movie, fate and fortune can be fickle. It all turned out great for Paulson and he became a wealthy man, but there were no guarantees. Sometimes unexpected things can happen. Neither Abacus nor Springtime for Hitler, as truly awful as they both were, were guaranteed to fail.

In any event, all of this calls for a "built to fail" video tribute. Keep a close watch for Mel Brooks (who won an academy award for the movie screenplay), appearing briefly to sing "Don’t be stupid, be a smarty/Come and join the Nazi Party."

And if you consider this video from just the right perspective, I am sure you will find a whole lot of Fabrice ("Fabulous Fab") Tourre in it, too.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

In the largest subprime-related securities suit settlement to date, Countrywide Financial has reached an agreement to pay $600 million to settle the securities class action pending against the company and certain of its directors and officers, according to an April 23, 2010 article by Gabe Friedman in The Daily Journal (here, subscription required). The settlement reportedly is still confidential and is also subject to the approval of several pension boards.

The settlement agreement would include the release several top Countrywide executives, including former CEO Angelo Mozillo.

The settlement is also subject to court approval; however, the agreement reportedly was the product of mediation before U.S. District Judge Howard Matz, and accordingly it seems unlikely that it would be set aside by the court, assuming it ultimately is approved by all parties.

The consolidated securities class action lawsuit against Countrywide is pending before Central District of California Judge Mariana R. Pfaelzer. In a massive December 1, 2008 opinion, about which refer here, Judge Pfaelzer had denied the defendants’ motion to dismiss. The Countrywide case remains one of the most prominent subprime-related securities cases in which the motions to dismiss were denied.

The settlement reportedly only relates to the securities class action lawsuit; the separate California-based shareholders’ derivative lawsuit, which also survived a motion to dismiss (refer here), apparently remains pending. The separate Countrywide ERISA class action lawsuit previously settled for $55 million (refer here).

In addition to these actions brought by private litigants, the SEC has also separately filed an enforcement action against former CEO Angelo Mozillo, as well as the company’s former CFO and COO, as discussed here. In addition, a recent report in the Wall Street Journal suggested that a Central District of California grand jury is also looking into the possibility of criminal misconduct at Countrywide.

By any measure, this is a very large settlement – should it in fact be finalized. According to the RiskMetrics’ Top 100 Settlements report (here), the $600 million Countrywide settlement would be tied for 13^th largest securities settlement of all times.

The $600 million Countrywide settlement is also by far the largest subprime-related securities class action lawsuit settlement, by far eclipsing the $475 million that Merrill Lynch agreed to pay to settle its subprime related securities class action lawsuit (about which refer here).

Despite the sheer size of the Countrywide settlement and its relative high ranking on the settlement tables, there may be some who may question the settlement at this dollar figure. Shareholders lost billions of dollars when Countrywide’s stock price plunged before the company’s acquisition by Bank of America. In addition, Angelo Mozillo sold hundreds of millions of dollars in his personal holdings in the company’s stock before the share price began its plunge.

As the post mortem on the subprime meltdown has developed, Countrywide has become the preferred example of many of the excesses that preceded the subprime meltdown. Accordingly, there may well be some who question whether $600 million, as big of a number as it is, is "enough."

The problem with arguments about what is "enough" is that it immediately begs the question of "compared to what?" Those who contend that it is not "enough" may well point to the magnitude of the investor losses (although clearly not all of the drop in Countrywide’s market capitalization is attributable to the alleged fraud). They may also point out that even just with respect to options backdating, there was at least one securities lawsuit settlement greater than $600 million (the UnitedHealth Group case, which settled for a total $925.5 million, taking all settlements into account).

On the other hand, there have only been a dozen cases in the entire history of securities litigation that have settled for more than $600 million and many of those involved companies that were brought down due to criminally fraudulent misconduct (e.g., Enron, WorldCom, Cendant). Other cases just involved criminal misconduct (e.g., Tyco). But WorldCom was acquired, it didn’t go bust and so far there have been no criminal allegations.

There may be those who feel so strongly that that the investors’ recovery should have been larger that they may object to the settlement; indeed, there could be those who feel they could do better on their own and who choose therefore to opt-out of the class settlement. As I have detailed elsewhere, even in many of the prior settlements that were larger even than the Countywide settlement, there were significant numbers of individual opt outs and in many cases, the aggregate amount of the opt-outs’ recovery represented a very significant percentage of the class settlement amount.

But whatever else may be said, $600 million is a lot of money. The Countrywide settlement comes close on the heels of the $200 million Schwab YieldPlus settlement. The quick succession of these two settlements suggests that the evolution of the subprime litigation wave may have reached a critical point. We may now begin to see other settlements emerge, particular in those cases that have survived dismissal motions.

The Countrywide and Schwab settlements, taken together with the $475 Merrill Lynch settlement, represent over $1.2 billion. These few data points suggest that the aggregate costs of resolving all of the subprime and credit crisis related litigation could be staggering.

But as impressive as these three settlements are, both individually and collectively, they all share one trait that may make them irrelevant in many cases. That is, in each of these three cases, there was a solvent and relatively strong entity available to fund a significant settlement. (Indeed, by the time the cases settled, the relevant entity with respect to both the Merrill Lynch and Countrywide settlements happened to be Bank of America.)

In many other pending cases, the relevant entity has long since folded (e.g., New Century Financial), and other than quickly dwindling insurance proceeds, there may be relatively few sources out of which to fund settlements. These eye-poppingly large settlements may represent nothing so much as what may be possible where there are deep pockets available, but they may not represent relevant reference points for many other cases.

In any event, my running tally of the subprime and credit crisis related lawsuit resolutions can be accessed here. However, readers should be aware that I will not be entering the data on the Countywide settlement until I have complete data and a link to a primary source that is not behind a firewall.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

Every day seems to bring news of a new or expanded bribery or corruption allegations and enforcement actions. In recent days alone, Avon announced that it was suspending four executives in connection with an internal investigation into alleged bribery in the company’s Chinese operations, and U.S. authorities announced they were joining German and Russian authorities in connection with an investigation involving alleged bribery by Hewlett-Packard executives in Russia.

If it seems as if the pace of antibribery and anticorruption activity has been picking up, that is only because it has.

According to an April 15, 2010 memorandum from the Wilkie Farr & Gallagher law firm (here), the level of Foreign Corrupt Practices Act (FCPA) enforcement in the first quarter of 2010 was "unprecedented." In the first three months of 2010 alone, the U.S. government brought or resolved FCPA charges against 36 companies and individuals, which is 30 more than in the first quarter of 2009 and 32 more than in the first quarter of 2008.

Moreover, according to the memo, the signs are that this heightened level of activity will continue for "the foreseeable future." Among other things, there are a variety of "new enforcement initiatives and prosecutorial tools" that have been initiated, including the creation within the SEC’s Enforcement Division of a new unit to focus on FCPA enforcement, and the enactment of the U.K’s Bribery Bill, which received royal assent on April 8, 2010. The Bribery Bill is similar to but broader than the FCPA. In addition, the draft financial reform bill introduced by Senator Chris Dodd contains a provision that, if enacted, would provide significant financial rewards to whistleblowers for providing information leading to a successful enforcement action.

These and other developments, including the recent DOJ-FBI sting operation involving individuals in the arms manufacturing industries, suggests, according to the memo, that antibribery enforcement activity is "likely to increase in both the short and the long run."

As I have noted in the past (refer for example here), among the risks associated with this types of investigative or regulatory actions is the possibility of follow-on civil litigations following in the wake of the governmental action. There have been many examples in the past of these kinds of follow-on actions, and a recently filed case shows that this threat of litigation following in the wake of an FCPA investigation is continuing. 

This most recent example involves a shareholders’ derivative complaint (here) filed on April 15, 2010 in Harris County (Texas) District Court against Pride International, as nominal defendant, and against the eight individual members of Pride’s board of directors. Pride is one of the world’s largest offshore drilling companies. The derivative action arises from "the Board lack of internal control that permitted the Company to engage in years of systematic violations of the FCPA."

The complaint alleges that the company’s internal investigation "revealed that Pride paid over $4 million and kickbacks to government officials in every country in which the Company does business." The complaint further alleges that on February 16, 2010, Pride announced that the company was creating a $56.2 million reserve to resolve the FCPA violations. However, the reserve "will only cover the fines, penalties, and disgorgements" and does not include the costs the company has incurred in "investigating and remedying the damages done as a result of the Board’s failure to require that the Company install and maintain a system of internal controls for compliance with the FCPA."

The complaint, which seeks recovery for "breach of fiduciary duty, abuse of control, gross mismanagement, waste of corporate assets and unjust enrichment," alleges that "none of the defendants took any steps to prevent this colossal mistake."

UPDATE: This new lawsuit filed against Pride apparently is the second derivative action to be filed against the company relating to these issues. The FCPA Professor Blog had an earlier post (here) describing a prior derivative action that was filed last fall in connection with these same circumstances.

This case provides an example of what I have described in the past as the D&O link to FCPA activity. There would not be coverage under the typical D&O policy for the fines and penalties imposed in connection with an FCPA enforcement action, although defense fees incurred in connection with the action potentially could be covered under many policies, depending on the policy wording. But the filing of a civil lawsuit against members of the board of directors, as a follow on to the FCPA action, is an event much more directly linked to the D&O policy and much more likely to give rise to covered loss under the policy.

As the escalating levels of FCPA enforcement actions continues to increase, this type of potential Board liability exposure will continue to be a growing concern for Boards, their advisers, and their D&O insurers.

Those wondering exactly why we are seeing so many antibribery actions now will want to review the April 20, 2010 post, here, on The FCPA Blog.

Special thanks to a loyal reader for providing me with a copy of the Pride International complaint.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

In one of the most substantial settlements to date to arise out of the subprime-related securities litigation wave, the parties to the consolidated Schwab YieldPlus securities class action lawsuit have reached an agreement to settle the case for $200 million, according to an April 20, 2010 press release from The Charles Schwab Corporation. The parties’ settlement arises in the wake of several recent summary judgment rulings in the case and in advance of a looming May 10, 2010 trial date.

The proposed settlement is subject to definitive agreement and court approval. The settlement also does not include certain state law claims the plaintiffs had asserted, as well as other regulatory claims.

The plaintiffs had filed several class action complaints in 2008 that were later consolidated. As reflected in the plaintiffs’ second amended complaint, the plaintiffs alleged that Schwab and related entities, as well as certain Schwab directors and officers, violated federal and state securities laws and other state laws in representations made about Schwab’s YieldPlus Fund, a short-term fixed income mutual fund.

Essentially, the plaintiffs alleged that the defendants misled investors when they described the Fund as a safe alternative to cash which had "minimal" risk of a fluctuating share price. The plaintiffs allege that the Fund was not "stable" or "safe" because it was comprised of assets that were riskier than represented. Specifically, the plaintiffs alleged that the assets held by the Fund were of longer duration than represented. The plaintiffs also alleged that the asset allocation disclosures and the description of the Fund’s concentration in illiquid securities were inconsistent with the Fund’s significant and increasing concentration in mortgage-backed securities.

The plaintiffs allege that by extending the average duration of the portfolio and by investing in between 46% to 50% of portfolio assets in mortgage-backed securities, the defendants caused the Fund and its shareholders to incur billions of dollars in losses. The complaint alleges that the Fund’s shareholders lost up to 36% of their "supposedly safe cash investment."

Northern District of California Judge William Alsup had recently issued a series of orders substantially denying the defendants’ motions for summary judgment. In a March 30, 2010 order (here), Judge Alsup denied the defendants’ motion for summary judgment and granting plaintiffs’ motion for summary judgment as to plaintiffs’ claims under the Investment Company Act of 1940. In an April 8, 2010 order (here), Judge Alsup substantially denied defendants’ motions for summary judgment on ’33 Act disclosure issues and loss causation issues. In a separate April 8, 2010 order (here), Judge Alsup substantially denied the individual defendants’ motion for summary judgment as to the plaintiffs’ Section 12 claims and certain state law claims. Trial in the case had been set to begin on May 10, 2010.

In its April 20 press release, the company stated that it increased its contingency reserve relating to the case an additional $172 million pre-tax (beyond the $11 million the company had previously accrued in the wake of the March 30 summary judgment ruling) an amount which is "net of expected insurance coverage."

The proposed settlement of the Schwab YieldPlus Fund securities suit is the second largest settlement yet to arise out of the subprime-related securities litigation wave, exceeded only by the massive January 2009 settlement in the Merrill Lynch subprime-related securities lawsuit (about which refer here). In addition, according to reliable sources, this settlement is the fourth largest securities settlement in the Ninth Circuit and the second largest for a noninstitutional lead plaintiff.

The size of the settlement undoubtedly is a reflection of the looming trial date and recent adverse summary judgment rulings, as well as the size of the losses claimed by the plaintiff class. While many of these factors are case specific, this settlement could nevertheless potentially cast a significant shadow across the huge number of remaining subprime-related securities lawsuits. The fact that the case involved a mutual fund may also present its own differentiating characteristics, but plaintiffs may nevertheless seek to rely on fact and amount of this settlement in other cases.

There has been a certain amount of publicity recently about how the plaintiffs may be faring poorly in the subprime related securities litigation, at least at the motion to dismiss stage. At a minimum, the sheer magnitude of this settlement suggests the enormous stakes that may be involved in the subprime-related securities lawsuits – at least those that survive initial pleading hurdles.

I have in any event added the Schwab settlement to my running tally of subprime and credit crisis-related lawsuit case resolutions (including dismissal motion rulings), which can be accessed here.

An April 20, 2010 Business Week article discussing the settlement can be found here. A Net Worth Plus blog post about the settlement can be found here.

Special thanks to  Reed Kathrein  of the Hagens Berman firm, which is lead plaintiffs' counsel in the YieldPlus lawsuit, for providing me with copies of the summary judgment motion rulings.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

The SEC’s blockbuster announcement last Friday of its civil enforcement action against Goldman Sachs and one of its investment bankers rocked the securities markets and made headlines in the financial press around the world. Undoubtedly because of Goldman’s prominence and perhaps also because of the nature of the allegations, the SEC’s action is widely seen as a watershed event.

Beyond the implications for Goldman itself, however, the development may be even more significant for what it may portend about possible future actions and claims, both by the SEC and by aggrieved investors. Here are some questions about what may be coming next.

Can we Expect Further SEC Enforcement Actions involved Subprime-Related Financial Instruments?:

According a March 29, 2010 CNBC interview with SEC Chairman Mary Shapiro (here), the agency has been working since the subprime meltdown emerged to build up staff with the right skill and experience to pursue financial-crisis related cases. Now that the SEC has staffed up, she advised, we can expect to see more crisis-related enforcement actions. She said, with reference to these actions, "there are more in the pipeline."

Indeed, in its April 16, 2010 Litigation Release related to the Goldman Sachs action (here), the SEC specifically said that its "investigation is continuing into the practices of investment banks and others that purchased and securitized pools of subprime mortgages and the resecuritized CDO market with a focus on products structured and marketed in late 2006 and early 2007 as the U.S. housing market was beginning to show signs of distress."

There has already been extensive press coverage raising questions some other transactions that may be under scrutiny. Gretchen Morgenson’s December 23, 2009 New York Times article raising questions about many of these transactions, including in particular the so-called Abacus transaction that is at the heart of the SEC’s action against Goldman, refers to numerous other transactions at Goldman and elsewhere where, as in the Abacus transaction, the investment banks created investment securities that were structured so that the banks and others could profit on financial bets that the investments would lose money.

There have also been a number of press articles (refer here for example) about Illinois-based hedge fund Magnetar, which sponsored over 30 CDO transactions in late 2006 and early 2007, which the hedge fund itself shorted, allowing it to make significant profits when the underlying mortgages began to default.

As the New York Times stated in an article on Sunday, the Goldman Sachs action is the SEC’s "the first big case — but probably not the last." Whether or not there may be more SEC actions relating to the toxic subprime-related transactions remains to be seen, but in the meantime concerned parties seem to be taking defensive measures. By way of illustration, when J.P. Morgan Chase released its first quarter financial results on April 14, 2010 (refer here), the firm disclosed that it "$2.3 billion in additional litigation reserves, including those for mortgage-related matters"

It should be noted that further regulatory action may come not just from officials in the U.S. According to press reports (here), German and U.K. government officials are conferring about possible regulatory actions against Goldman, in light of the revelations in the SEC’s complaint against the firm.

Finally, it should probably also be noted quite a number of observers have commented that the SEC’s case is far from a slam dunk, and the SEC could face formidable hurdles in attempting to sustain its allegation. The most balanced of these types of commentaries, by Professors Henning and Davidoff, appears in the Dealbook blog (here). An April 18, 2010 Wall Street Journal article (here) raises many of the same questions.

Will More Senior Officials Get Dragged In?:

The SEC named 31-year old Fabrice Tourre as a defendant because, the SEC alleged, Tourre was "principally responsible" for the Abacus transaction," having "devised the transaction, prepared the marketing materials and communicated directly investors." He also drew a big bull’s-eye on himself in an email suggesting that he ("the fabulous Fab") is the "only potential survivor" of the coming collapse, standing in the middle of "monstrosities" he had "created without necessarily understanding." (Note to file: It is never a good thing to have a personal email reproduced on the front page of the Wall Street Journal, above the fold.)

Tourre, who was 28- years old at the time of the Abacus deal, was not, however, simply off on a personal frolic in putting together this $2 billion transaction. Indeed, "senior level management" of Goldman Sachs is alleged, in paragraph 40 of the SEC’s complaint, to have approved the transaction. The referenced individuals, apparently members of Goldman’s Mortgage Capital Committee, were neither identified by name in the complaint, nor were they named as defendants.

Gretchen Morgenson’s April 18, 2010 New York Times article (here) suggests that the SEC may try to use Tourre to "get" more senior officials. Morgenson also suggests that as the subprime market began to unravel in 2007, senior Goldman officials became more directly involved in the firm’s mortgage department. A separate April 19, 2010 New York Times article talking about senior Goldman executives' supervision of and involvement in the mortgage unit can be found here.

Susan Beck, in her April 16, 2010 Am Law Litigation Daily article about the SEC’s action against Goldman (here), suggests that perhaps New York Attorney General Andrew Cuomo may "start rooting around and come up with other individuals," noting that Cuomo has had not been afraid to name top executives as defendants in his action against BofA.

The pressure the SEC faced from Judge Jed Rakoff in attempting to settle its enforcement action against BofA, among other reasons for its failure to name the specific individuals responsible for the alleged violations, suggests the likelihood that any future SEC enforcement actions will include individuals among those targeted. But the question remains, both with respect to any further regulatory against, whether against Goldman or other financial players, more senior company officials will become involved.

Will the SEC’s Action Against Goldman Spawn Further Investor Litigation?:

In an April 17, 2010 post on WSJ.com Law Blog (here), Amir Efrati quotes a leading plaintiffs’ securities class action attorney as saying that "private lawyers are foaming at the mouth" over the prospects of pursuing claims against Goldman. (Presumably, this expression was merely a figure of speech.). An April 17, 2010 Reuters story (here) quote one plaintiffs’ attorney as saying that Goldman investors have already contacted him about pursing actions to recover their losses.

These developments also suggest that investors who lost money in other subprime-related investments may be asking whether their transaction involved the same kind of undisclosed conflict of interest as the SEC alleges in the Abacus deal. Indeed, one claimant that has a case pending against Merrill Lynch based on a subprime-backed security has alleged (refer here) that Merrill failed to disclose that it had a relationship with another client that was betting against the investment, similar to what happened at Goldman Sachs.

These developments arise just as the long-running subprime and credit crisis-related litigation wave appeared that it might be losing momentum. Many commentators recently have noted the dwindling numbers of new subprime related securities class action lawsuits. Moreover, in an April 8, 2010 Wall Street Journal article entitled "Banks Winning When Investors Sue" (here), Ashby Jones suggested that plaintiffs were faring poorly on dismissal motions in subprime-related securities lawsuits against previously filed against financial firms.

In light of popular and press reaction to the SEC’s allegations against Goldman, it is possible that these revelations in the Goldman complaint could revitalize the subprime litigation wave. Indeed, the SEC’s action may be only one of several recent developments that could reinforce a renewed interest in pursuing claims against Wall Street firms. The examiner’s report in the Lehman bankruptcy and the revelations of the Senate subcommittee investigation into the financial crisis could drive a renewed interest in holding financial firms accountable. These accumulating developments could also counterbalance the apparent judicial skepticism of fraud claims raised in the wake of the financial crisis.

The bottom line is that the SEC’s enforcement action is a significant event with important implications. How all of this will unfold remains to be seen, but it seems possible in the wake of the SEC’s complaint there could be a cascade of consequences.

National Public Radio’s April 16, 2010 "All Thing Considered" report about the SEC's complaint against Goldman Sachs can be found below. The report includes my recorded comments about these developments.

Another Surge of Failed Banks: Amidst all of the hoopla surrounding the Goldman Sachs enforcement action you may not have noticed that on Friday, April 16, 2010, after the close of business, the FDIC took control of eight more banks, bringing the year to date total of bank closures to 50. During 2009, when there were a total of 140 failed banks, the FDIC did not close its 50^th bank until July 2, 2009, suggesting that the pace of bank failures is well ahead of last year’s pace.

Three of the banks closed on April 16 were based in Florida, bringing the number of 2010 bank closures in that state to nine, the highest for any state this year. Since the beginning of 2008, there have 25 bank failures in Florida. The state with the highest number of bank failures during the period 2008-10 is Georgia with 37, including seven in 2010, the second highest number for any state this year. Other states with the highest numbers of bank failures this year include Washington (5), California (4), and Minnesota (3).

• Email This
• Print
• Comments
• Trackbacks
• Share Link

Congressional fact-finding hearings are generally unedifying spectacles, involving as they do the weird rite of ritual public witness humiliation and accomplishing little except the suggestion of troubling questions about the kind of person who manages to get elected to Congress. Some might say that the series of hearings about Wall Street and the Financial Crisis recently launched by the Senate Permanent Subcommittee on Investigations represents no exception to these usual rules about Congressional investigations.

Whether or not the hearings accomplish anything of durable value remains to be seen, but at a minimum, public statements accompanying the hearings contain assertions that could provide at least rhetorical aid for plaintiffs in some credit crisis related lawsuits.

As reflected in the Subcommittee’s April 12, 2010 press release (here), the Subcommittee will be hosting four hearings in April, the first of which took place this past Tuesday, when former Washington Mutual executive were called to testify. The second session will convene on Friday, April 16.

Most press reports about the first hearing focused on the claims by WaMu’s chief executive that the bank was permitted to fail because it was not part of the "inner circle" of financial institutions that were "too clubby to fail." For example, the New York Times’ April 13, 2010 article about the hearings was headlined "Ex-Chief Claims WaMu was Not Treated Fairly" (here).

Whatever else you might want to say about the CEO’s statements, they did manage to shift media attention away from the perhaps equally provocative statements the Subcommittee published in advance of the hearing, some of which undoubtedly will make their way into complaints in litigation arising out of the financial crisis.

The Subcommittee’s press release not only asserts that "the bank [WaMu] contributed to the financial crisis by making hundreds of billions of dollars in shoddy, high risk mortgage loans, packaging them, and selling them to investors as mortgage backed securities," but it also quotes Subcommittee Chairman and Michigan Senator Carl Levin as saying that WaMu "built a conveyor belt that dumped toxic mortgage assets into the financial system like a polluter dumping poison in a river."

A separate Committee document (here) purports to document WaMu lending practices that "created a mortgage time bomb."

Contrary to the immediate impression that might be conveyed, the hearings had a purpose other than to provide a forum for high-octane rhetoric (not to mention mixed metaphors). According Levin’s statements in the press release, the hearings are intended to "provide a public record of what went wrong, who should be held accountable, and the ongoing need to protect Main Street from the excesses of Wall Street."

The press release does not expressly address the question of "who should be held accountable," but the press release, the initial hearing itself and the committee documents do tend to isolate the Committee’s message, as was captured in the April 13, 2010 Seattle Times article about the hearings entitled "WaMu Execs Saw Warning Signs of Deteriorating Loans" (here).

The Committee’s press release suggests a number of ways the Committee faults the bank’s executives for its failure, and even perhaps for damage to the larger economy. First, again quoting Levin, the press release states that "examining how Washington Mutual operated, and what its insiders were saying to each other, begins to open a window into the troubling mortgage lending and securitization practices that took our economy over a cliff." This reference to what "insiders were saying to each other" is the very sentiment that often makes its way into securities class action lawsuit complaints.

The press release further targets the company’s management for its "conscious decision to focus on high risk mortgages, because higher risk loans offered greater profits." At the same time, the report claims, internal reports show that the bank’s loans "did not comply with the bank’s own credit requirements, contained fraudulent or erroneous borrower information and suffered from large numbers of early defaults."

The company’s management also comes in for criticism in the press release for the company’s compensation practices, which "rewarded loan officers and loan processors for originating large volumes of high risk loans, [and] paid extra to loan officers who overcharged borrowers or added stiff prepayment penalties." The press release dials all of these compensation problems back to management, noting that the company’s compensation system "gave executives millions of dollars even when its high risk lending strategy placed the bank in financial jeopardy."

These kinds of assertions undoubtedly could provide at least rhetorical support for investors pursuing claims against the company’s former executives. But there are additional assertions in the press release that could prove useful for claimants in cases filed against the financial institutions that were securitizing the WaMu-originated mortgages into mortgage-backed securities. Certainly the allegations about WaMu’s mortgage practices are very much like the supposed "systematic disregard" of underwriting guidelines by mortgage originators that has proven to be a relatively successful allegation in other lawsuits filed against mortgage securitizers (about which refer here).

The press release also asserts that "WaMu selected and securitized loans that it had identified as likely to go delinquent, without disclosing its analysis to investors who bought the securities." The press release also states that "an internal 2008 report found that lax controls had allowed loans that had been identified as fraudulent to be sold to investors." Investors who purchased securities collateralized by WaMu mortgages undoubtedly will be aggrieved to hear these kinds of assertions.

Whether or not the hearings lead to anything useful is a story yet to be told. However, it does seem that the process is calculated to identify (and even vilify) purported culprits. As my review of the press release suggests, this process may have implications for continuing credit crisis-related litigation, whatever else may happen.

In any event, it looks like the cast of culprits will be expanding. According to an April 16, 2010 Wall Street Journal article entitled "Spreading Around the WaMu Blame" (here), further Subcommittee hearings to take place on Friday (April 16) will include testimony that a turf war between banking regulators contributed to WaMu’s collapse. Apparently the report will suggest that the Office of Thrift Supervision failed to follow up on deficiencies and resisted FDIC efforts to be more aggressive.

Lerach: Coming Back?: At least according to Ben Halliman in the AmLaw Litigation Daily (here), former securities class action attorney and convicted felon Bill Lerach may have launched his comeback tour. As Halliman notes, Lerach recently sat for an interview in the San Diego Union-Tribune, here.

It seems fair to say that Lerach is bloody but unbowed. He remains "very proud of the work we did representing people who were taken advantage of by rich and powerful interests. We recovered substantial sums for these people and, more importantly, gave them a sense that someone in the legal system cared about them." More pointedly, he says that "I would not have done anything differently," noting that the system of paying plaintiffs predated his involvement, yet conceding that "we were wrong to think the ends justified the means."

The interviewer did also ask him about the recent book focused on his professional career, "Circle of Greed" (which I reviewed here). Lerach said:

The book is very tough on me, and it certainly exposes a lot of my faults and mistakes. I guess we all wish we were perfect but we are not, and when you have two very good investigative reporters comb through 35 years, it comes out with some blemishes for sure. On the other hand, the book presents how hard my law firm worked on behalf of our clients and how much we achieved against extremely powerful and influential interests. So, I can’t complain about the way the book came out even if I might want to change some things.

For those who may be interested, my interview of the authors of "Circle of Greed" can be found here.

PLUS Webinar: On April 22, 2010, at 2:00 P.M. EDT, I will be participating in a free webinar sponsored by the Professional Liability Underwriting Society (PLUS) entitled "D&O Insurance and the Outcome and Timing of Securities Class Action Resolution: What New Data Shows." The purpose of the webinar is to discuss recent research completed by Stanford Law School Professor Michael Klausner on the impact of D&O insurance on securities class action resolutions. Professor Klausner’s research also addresses the timing of case resolution and factors affecting the eventual outcomes.

Joining me on the discussion panel, in addition to Professor Klausner, will be Steve Anderson of Beecher Carlson and Todd Greeley of C N A. The session will be moderated by Paul Lavelle of LVL Claims Services. Additional Information and Registration Instructions for this webinar can be found here.

My Nomination for Funniest Roomate Ad of All Times: Where to go if you are looking for a place to live in Santa Cruz, and you happen to be a tetrahedron? No worries, find it here. 　

• Email This
• Print
• Comments (1)
• Trackbacks
• Share Link

As the number of failed banks has mounted in the last couple of years, the question that has arisen is whether the FDIC will pursue claims against the directors and officers of the failed institutions. While we are still waiting to see what the FDIC will do, private litigants have been moving forward. In particular, in many cases the investors have pursued securities lawsuits against the directors and officers of the failed banks.

Unfortunately for some of these plaintiffs, however, a number of these cases have resulted in dismissals. By way of example, dismissal motions were granted in the BankUnited case, and Downey Financial case. However, a recent decision in the securities lawsuit surrounding the collapse of Corus Bankshares went the other way, in an opinion that is largely favorable to plaintiffs.

Until the bank was closed on September 11, 2009, Corus Bankshares operated as the holding company for Corus Bank, a depositary institution that concentrated its lending activities in commercial construction loans, particularly condominium construction and conversion loans. Investors sued Corus and two of its former officers alleging that Corus misrepresented its lending practices, capital position and loan loss reserves. As the court later stated "the complaint alleges that Corus misrepresented the nature and extent of its financial troubles and its ability to survive the downturn affecting the economy at the time." The defendants moved to dismiss.

In an order dated April 6, 2010 (here), Northern District of Illinois Judge Elaine Bucklo denied the motions to dismiss as to Corus and its former CEO, but granted the motion as to its former CFO.

In their dismissal motions, the defendants had argued that the plaintiff’s allegations represented nothing more than "fraud by hindsight," particularly with respect to plaintiff’s allegations about the inadequacy of the loan loss reserves. Judge Bucklo rejected these arguments, finding that "plaintiff here has alleged specific, concrete reasons for his contention that Corus should have known that its reserves were inadequate and needed to be increased, and that Corus’s statements about the adequacy of its reserves were misleading." Judge Bucklo also found that plaintiff’s allegations about other aspects of Corus’s financial condition were also sufficient.

Judge Bucklo also concluded that the plaintiff’s scienter allegations were sufficient, at least as to Corus and its former CEO. She said that "an inference of scienter is supported, first of all, by Corus’s awareness of the discrepancy between its public statements about its finances and the corporation’s true financial condition." The inference, she said, was "buttressed by many other allegations," including the company’s undisclosed use of special purpose entities.

The defendant had argued that the plaintiff’s scienter theory was undercut by the "frankness" of some of the company’s disclosures. Judge Bucklo said that

The argument is not without force, but it does not carry the day. Plaintiff does not contend that Corus sought to pull the wool over the public’s eyes by claiming that it would pass through the recession entirely unscathed. Instead, according to plaintiff, Corus’s fraud consisted largely in concealing the full extent of its financial difficulties. Thus, the fact that Corus disclosed certain of its difficulties during the class period does not necessarily negate any inference of scienter, for Corus’s statements may still have been intended to conceal the fact that its condition was substantially worse than it statements suggested.

Judge Bucklo also concluded that the scienter allegations were sufficient as to the company’s former CEO, largely in reliance on plaintiff’s allegations that the CEO was "deeply involved in every major aspect of the lending process." She concluded that plaintiff’s scienter allegations against the CFO were not sufficient, particularly where there were no allegations that the CFO was deeply involved in the lending process.

HomeBanc Corporation Securities Suit Dismissed: In a ruling that came out completely opposite from Corus case, on April 13, 2010, Northern District of Georgia Judge Timothy C. Batten, Sr. entered an order (here) granting with prejudice the defendants’ motions to dismiss the securities lawsuit pending against two former officers of HomeBanc Corporation.

HomeBanc was an Atlanta-based real estate investment trust in the business of investing in and originating residential mortgage loans. The plaintiffs alleged that prior to the company’s August 9, 2007 bankruptcy the defendants portrayed"overly rosy picture" of the company’s finances, and misrepresented the company’s underwriting practices, loan loss reserve model, and other aspects of the company’s lending and mortgage investment operations. The plaintiffs alleged that the company "loosened its underwriting standards and policies in response to slowing loan originations and shifted from its stated focus on conservative risk management to attempting to profit by selling poor quality loans." The defendants moved to dismiss.

In his April 13 order, Judge Batten agreed with the Defendants’ position that "the bulk of the statements upon which Plaintiff relies fail to satisfy the ...standards for materiality." Among other things he found that the complaint "makes conclusory allegations of falsity without establishing contrary true facts." He also said that the complaint is "rife with forward-looking statements made by HomeBanc that were accompanies by meaningful risk disclosures."

Judge Batten also concluded that the plaintiff "has failed to allege sufficient facts to demonstrate a cogent and compelling inference of scienter," noting that "the complaint cites differences of opinion, conjecture and innuendo in an attempt to make the Defendants’ behavior look suspicious, but it conspicuously omits any facts that would require one to rule out an innocent explanation for the alleged behavior." Judge Batten also held that the plaintiff had not sufficiently pled loss causation.

Discussion

These are two completely different cases involving two completely different sets of parties and two completely different sets of allegations. But it is very hard to read them back to back and not come away with a strong impression of how different the two judges’ approaches were and how the difference of those approaches seemed to lead directly to the outcome. To be sure, the difference of the approach may be nothing more than a reflection of the relative merits of the two cases. On the other hand, it is hard to shake the impression that there were two different outcomes simply because there were two different judges involved.

Some might argue that I am being naïve to believe that merits outcomes ought not to turn simply of the luck of the judicial draw. And yet others might say that judicial draw has nothing to do with the difference in outcome of these two rulings, but rather the outcomes reflect the cases. And I suppose it could be said that the system requires only uniform principles not uniform outcomes. But all of that said, it really does seem sometimes that the most significant factor in determining the outcome of a case is the identity (and predisposition) of the judge.

At the risk of starting something, I do think it is interesting to note that Judge Bucklo, who denied the motion to dismiss in the Corus case, is a Clinton appointee, and Judge Batten, who granted the motion to dismiss, is a Bush (W) appointee. Not that that has anything to do with the outcomes, of course.

I have in any event added these rulings to my running tally of subprime and credit crisis related case resolutions, which can be accessed here.

Special thanks to the several readers who sent me copies of the Corus decision and to the loyal reader who sent me the HomeBanc decision.

PLUS Webinar: On April 22, 2010, at 2:00 P.M. EDT, I will be participating in a webinar sponsored by the Professional Liability Underwriting Society (PLUS) entitled "D&O Insurance and the Outcome and Timing of Securities Class Action Resolution: What New Data Shows." The purpose of the webinar is to discuss recent research completed by Stanford Law School Professor Michael Klausner on the impact of D&O insurance on securities class action resolutions. Professor Klausner’s research also addresses the timing of case resolution and factors affecting the eventual outcomes.

Joining me on the discussion panel, in addition to Professor Klausner, will be Steve Anderson of Beecher Carlson and Todd Greeley of C N A. The session will be moderated by Paul Lavelle of LVL Claims Services.

Information and Registration for this free webinar can be found here.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

On April 14, 2010, the insurance information firm Advisen released its analysis of first quarter 2010 securities litigation filings and trends. The quarterly report, which is entitled "Securities Suits Ease Back to Normal Following a Frantic Two Years," can be accessed here. As detailed below, the Advisen report concludes that the securities lawsuit filing activity "floated back to earth in 2010, to a pre-credit crisis plateau."

Before any attempt can be made to try to read the Advisen report, it is absolutely indispensible to understand that the Advisen report uses its own terminology.　

The most important thing to understand is that the Advisen report uses the term "securities litigation" to include a very broad range of kinds of lawsuits, including not just securities class action lawsuits, but also derivative actions, regulatory and enforcement actions, individual lawsuits, and collective actions in courts outside the United States.　

The Advisen report also apparently includes within the category "securities lawsuits" cases that many readers might not think of as "securities claims," including claims alleging "common law torts, contract violations and breaches of fiduciary duties."

The Advisen report uses the term "securities lawsuits" basically to mean any type of corporate or securities litigation (other than ERISA litigation), regardless whether or not the legal action was commenced in the U.S. or even apparently whether it alleges a violation of the securities laws. Because of the enormous variety of litigation encompassed within this category, throughout this post I have put the phrase "securities lawsuits" or "securities litigation" in quotation marks.　

The Advisen report also uses the phrase "securities fraud" lawsuits as a subset of the larger group of "securities lawsuits." Contrary to what you might expect, however, the category of "securities fraud" lawsuits does not include class action lawsuits alleging securities fraud – securities fraud class action lawsuits are their own separate category ("SCAS"). Instead, the phrase is used to refer to regulatory and enforcement actions -- yet somehow also includes private securities lawsuits that are not filed as class actions.

So the "securities fraud" lawsuit category includes, in addition to regulatory and enforcement actions, lawsuits alleging fraud under the federal securities laws if the fraud is alleged by an individual but not if it is alleged on behalf of a class.

The Report’s Conclusions

Though the Advisen report’s title suggests that "securities litigation" is "back to normal," overall what the report seems to show is that "securities litigation" declined in the first quarter relative to recent periods.

Thus the report shows that there were 178 "securities lawsuits" (again, as that term is very broadly defined in the report). This first quarter filing rate for this broad category of litigation is down 34 percent from the final quarter of 2009 and 39 percent compared the year prior first quarter. This relative reduction in filing activity appears to be due to the decline in the number of credit crisis and Madoff-related lawsuits.

The 178 "securities lawsuits" in the first quarter represents an annualized filing rate of 712 "securities lawsuits," which would be 29 percent below the 2009 total number of "securities lawsuits" of 1,003.

This filing decline also affected the number of securities class action lawsuit filings as well. (Again, securities class action lawsuits, or "SCAS," represent a subset of "securities lawsuits.") According to the Advisen study, there were 38 securities class action lawsuits filed in the first quarter, which would represent an annualized filing rate of only 152 lawsuits. (Just by way of comparison, Cornerstone reports that the annual average number of securities class action lawsuits during the period 1996 to 2008 was 197.)

In continuation of a recent trend, the proportion of securities class action lawsuits as a percentage of all "securities lawsuits" continued to decline in the first quarter of 2010. Securities class action lawsuits represent 21 percent of all "securities lawsuits" in the first quarter of 2010, down from 23 percent in all of 2009, and 28 percent in 2004.

Though the decline in quarterly filing activity is attributable to the decline in Madoff and credit crisis-related lawsuit filings, financial firms remained the most frequently targeted. Financial firms were named as defendants in 31 percent of all "securities lawsuits," down from 39 percent in 2009 and 42 percent in 2008.

In addition to this still significant but declining level of filings involving financial companies, the report also notes "a wider spread of suits by industry sector," including the following sectors, indentified by their prevalence as targets as a percentage of all "securities suits"; "information technology (14 percent), consumer discretionary (13 percent), healthcare (11 percent), and industrials (11 percent).

Seventeen (or ten percent) of first quarter 2010 "securities lawsuits" were filed against non-U.S companies, down from 12 percent in all of 2009. The report states that there was "one large suit [against a non-U.S. company] filed in a non-U.S. court." The report does not define what is meant by "large."

Advisen Webinar: On Friday On Friday April 16, 2010, I will be participating in an Advisen webinar, entitled "First Quarter Securities Litigation Review," to discuss first quarter 2010 securities lawsuit filings as well as other first quarter securities litigation developments. Other participants in the webinar, which will take place at 11:00 am EDT, include Ken Ross from Willis, ACE’s Scott Meyer, Wilkie Farr’s Michael Young, and Advisen’s David Bradford. Advisen’s Jim Blinn will moderate. Registration information for the webinar can be found here.　

Reader Advisory: Terminology Matters!

• Email This
• Print
• Comments
• Trackbacks
• Share Link

Editor's Note: The corrected post is being republished to remedy an error in the prior email notification. The National Australia Bank case now awaiting decision before the United States Supreme Court raises what the Second Circuit in that same case called "the vexing question of the extraterritorial application of the [U.S.] securities laws." But while we all await the outcome of the NAB case, the lower courts are continuing to wrestle with these "vexing" questions. In two recent decisions in separate cases, two federal district court judges found they lacked subject matter jurisdiction over claims under the U.S. securities laws against foreign domiciled companies. Each of these decisions involved different aspects of the jurisdictional question and each represents outcomes that are interesting in distinct ways.

These questions of the extraterritorial application of the U.S. securities laws are most apparent in cases involving so-called "f-cubed claimants" – that is, foreign domiciled investors who bought their securities in foreign domiciled companies on foreign exchanges. Many of the most noteworthy recent cases, including the NAB case itself, have arising in the context of f-cubed claimant cases. The Fairfax Financial Holding case discussed below represents another example of an f-cubed claimant case.

But the European Aeronautic Defence & Space Co. case discussed below also involved a foreign domiciled company whose shares trade on foreign exchanges, but the plaintiff and the putative class consisted exclusively of U.S.-based investors. Thus, the EADS case represents an example of an "f-squared" case, as described in an April 10, 2010 memo (here) by lawyers from the Wachtell Lipton firm (who represented the EADS defendants in the EADS case) on the Harvard Law School Forum on Corporate Governance and Financial Reform. Nevertheless, though the case represented a lower jurisdictional exponent (i.e., squared rather than cubed) the court nonetheless found that it lacked subject matter jurisdiction, as discussed below.

European Aeronautic Defence & Space Co.: EADS is a public company organized under Dutch law and headquartered in the Netherlands. Its shares trade on Paris and Frankfurt stock exchanges, as well as on four Spanish exchanges. Its disclosures are governed by the laws of the European Union and its member states.

EADS shares are not traded on any U.S. exchange, although three U.S. banks have unsponsored American Depositary Receipts in EADS shares. EADS does not make filings with the SEC.

Bristol County Retirement System (a Massachusetts-based municipal employee retirement system) filed a securities complaint against EADS and three of its officers in the Southern District of New York on behalf of "all persons and entities residing in the United States" who purchased EADS shares during the class period. The complaint alleges that the defendants misled investors about production delays in the Airbus A380 super jumbo aircraft.

The defendants moved to dismiss alleging that the court lacked subject matter jurisdiction.

In a March 26, 2010 ruling (here), Southern District of New York Judge William H. Pauley III granted defendants’ motion, finding that neither the alleged U.S.-based conduct nor the alleged U.S.-based effects were sufficient to support jurisdiction.

With respect to his finding that the plaintiffs’ allegations failed to meet the conduct test, Judge Pauley said:

This was a European fraud. EADS is headquartered in Europe. Its shares trade only on European exchanges. It is subject to regulation by the European Union and its member states. Its investor disclosures were prepared and disseminated in Europe. The A380 production difficulties transpired in Europe. Bristol County purchased EADS shares on a European exchange. The gravamen of the Complaint is that EADS’s fraudulent disclosures in Europe inflated its share price on European exchanges, causing Bristol County to lose Euros. The only thing American about this case is Bristol County.

Even though Bristol sought to represent a class only of U.S. investors, Judge Pauley concluded that the plaintiffs failed to meet the effects test as well, ruling that "none of the putative class members are alleged to have acquired EADS shares on domestic securities markets." Judge Pauley added that "absent allegations linking the effects of the fraud to the United States, the federal securities laws do not reach this predominantly foreign fraud."

Interestingly, Judge Pauley found the plaintiff’s allegations did not meet the effects test despite the plaintiff’s contention that "there are seventy-three U.S. investors who hold 7 percent of EADS’s total outstanding shares," noting that these investors bought their shares overseas, and that even if some class members acquired shares as ADRs, absent a showing of a "substantial" effect on the purchasers, the "Court could not conclude the effects test has been met."

Judge Pauley also indicated that the doctrine of foreign non conveniens also separately supported dismissal, finding, among other things that the plaintiffs had an "adequate alternative forum" in European courts, notwithstanding the absence of class action procedures and the absence of recognition of the fraud on the market theory in those jurisdictions.

Fairfax Financial Holdings Limited: Fairfax is a Canadian financial holding company with a U.S.-based reinsurance operating unit. A Canadian investment fund, which bought its Fairfax shares in Canada, sued Fairfax in the Southern District of New York in a securities class action lawsuit, alleging that Fairfax had manipulated its reported financial results by improperly accounting for certain reinsurance contracts entered by its U.S.-based unit.

Though the named plaintiff bought its shares in Canada, Fairfax’s subordinate voting shares trade on the NYSE, and Fairfax has filed reports with the SEC.

In a March 29, 2010 opinion (here), Southern District of New York Judge George B. Daniels granted the defendants’ motion to dismiss for lack of subject matter jurisdiction. Judge Daniels found that "this case involves Canadian plaintiffs who bought shares of a Canadian company on a Canadian exchange" and that "neither the conduct nor the effects test provides a jurisdictional basis."

Judge Daniels found that the "allegations concerning United States based conduct are severely limited, both in number and jurisdictional significance." Though Fairfax’s U.S.-based reinsurance unit entered into the questioned transactions, the allegedly misleading financial statements were prepared in Canada. The U.S. unit’s conduct "may have contributed to the alleged scheme," but it was "Fairfax’s alleged conduct in Canada that defrauded investors and caused an inflated stock price."

Even thought the plaintiffs alleged an impact on U.S. markets and on U.S. investors, Judge Daniels found "the United States interest affected in this action is minimal, at best," particularly given that "this case involves foreign purchasers who acquired securities in a foreign exchange" and the lead plaintiff "fails to allege that any shares were bought or sold by investors on the New York Stock Exchange."

Though there are U.S. investors and though Fairfax has filed reports with the SEC, the lead plaintiff "fails to indicate that any conduct in Canada caused a United States investor to suffer a loss," and "conclusory allegations that Defendants’ fraud had a significant effect on unnamed Fairfax securities holders in the United States are insufficient."

Discussion

At least at the surface level, these cases are about nothing more than what the courts found the plaintiffs failed to allege. The inference is that with different allegations, the cases might have been permitted to proceed.

As a different level, however, these cases may be more about an unstated but evident judicial reluctance to impose U.S. securities laws on foreign companies in connection with securities transactions that took place outside the U.S. Because there is (at least not yet) no definitive legal authority that U.S. courts lack jurisdiction over extraterritorial transactions involving non-U.S. companies (whether or not the claimant is based in the U.S.), these courts both described their rulings in terms of the insufficiency of the plaintiffs’ allegations. However, in neither case were plaintiffs allowed to amend in order to attempt to cure the pleading defects.

Where you come out on the question whether or not these cases were correctly decided may well depend on how you feel about allowing U.S. courts to entertain cases under the U.S. securities laws against foreign domiciled companies, particularly with respect to transactions that took place outside the U.S. The plaintiffs in these cases may well feel aggrieved that a case, on the one hand, on behalf of exclusively U.S.-based investors, and, on the other hand, on against a company whose shares trade on U.S. exchanges and which files reports with the SEC, were not permitted to proceed in U.S. courts.

Defense-inclined observers may feel these courts appropriately declined jurisdiction. These observers may well contend that the mere presence of U.S-based investors alone without more arguably should not be enough to support jurisdiction, for the simple reason that there are very few investment vehicles of any kind any where in the world that do not have some U.S. investor involvement. If the mere presence of U.S. investors alone were sufficient to support jurisdiction, there would be few companies or transactions beyond the potential liability reach of the U.S. securities laws.

There is, however, a larger question here, which is whether U.S. securities laws appropriate should ever be applied to impose potential liability on non-U.S. companies and corporate officials in connection with transactions that took place outside the U.S. It might fairly be argued that to apply U.S.-based liability principles in this context might be an inappropriate extraterritorial extension of U.S. law to persons and transactions more appropriately regulated by the laws of other jurisdictions. One might argue that principles of comity and judicial restraint weigh against the U.S. courts’ exercise of jurisdiction.

The NAB base now awaiting decision at the U.S. Supreme Court may well address these larger principles, although the requirements of the specific case before the court may lead the court to rule narrowly, for example, declining jurisdiction without saying more about the circumstances under which jurisdiction is appropriate and how principles of comity might weigh in the analysis. These cases do raise difficult questions of legal authority and reach in a complex global economy.

As the cases above demonstrate, these issues will continue to arise, and absent definitive guidance from the Supreme Court – or Congress – the lower courts will continue to sort their way through these issues.

Andrew Longstreth’s March 31, 2010 AmLaw Litigation Daily article about these two cases can be found here. The 10b-5 Daily’s post about the EADS case can be found here. My initial post about the EADS case at the time the case was first filed can be found here.

Justice Stevens: The papers this weekend are full of articles about the retirement of Justice John Paul Stevens and his possible replacement. Perhaps in anticipation of these events, a couple weeks ago the New Yorker ran a March 22, 2010 biographical sketch of Stevens (here) written by the journalist and Court observer, Jeffrey Toobin. The article draws an interesting portrait of Stevens as the last of a dying breed, the moderate Republican. I recommend the article. It conveys a strong sense of the role that Stevens has played on the Court, particularly in recent years, as well as the possible consequences his departure may have going forward.

Advisen Quarterly Securities Litigation Webinar: On Friday April 16, 2010, I will be participating in an Advisen webinar, entitled "First Quarter Securities Litigation Review," to discuss first quarter 2010 securities lawsuit filings as well as other first quarter securities litigation developments. Other participants in the webinar, which will take place at 11:00 am EDT, include Ken Ross from Willis, ACE’s Scott Meyer, Wilkie Farr’s Michael Young, and Advisen’s David Bradford. Advisen’s Jim Blinn will moderate. Registration information for the webinar can be found here.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

From time to time, the SEC reiterates its view of the critical role companies’ outside directors play in safeguarding investors’ interests. Nevertheless, it has been relatively rare for SEC to pursue enforcement actions against outside directors based on an alleged failure to fulfill that role, at least in connection with disclosure violations. A recent enforcement action in which the SEC charged an outside director as a primary violator for the company’s financial disclosures may suggest that the SEC is taking a more active enforcement approach against outside directors.

As reflected in the SEC’s March 15, 2010 press release (here), the SEC filed enforcement actions against three former senior executives and a former director of InfoGROUP. A copy of the enforcement complaint against the former director can be found here.

The actions arose out of allegations that the company’s CEO had used nearly $9.5 in corporate funds for a variety of personal expenses and that the company had entered into an undisclosed $9.3 million transaction with companies in which the CEO had a personal stake. The alleged personal expenses included personal travel on private jets; expenses related to the CEO’s yacht; personal credit card expenses, and other items.

The former director against whom the SEC pursued an enforcement action, Vasant Raval, had been chair of the board’s audit committee. Beginning in January 2005, Raval became aware of "red flags" concerning the CEO’s expenses and the related party transactions. The board asked Raval, in his capacity as audit committee chair, to investigate.

Ravel conducted his own investigation, without the assistance of independent counsel. His investigation revealed information suggesting inadequate documentation and explanations for many of the expenses and the related party transactions. He also received an unsolicited document from the company’s director of internal audit that questioned the business purpose of certain of the expenses. The SEC alleged that despite this information, "Ravel failed to take meaningful action to further investigate [the CEO’s] expenses."

Less than 2 weeks after beginning his investigation, Ravel presented he company’s board and its outside counsel the results of what he described as his "in-depth investigation," which, according to the SEC, failed to advise the board that he (Ravel) was aware of insufficient documentation for certain expenses.

During summer 2005, Ravel received additional information from the company’s new director of internal audit questioning some of the CEO’s expenses. The SEC alleged that Ravel failed to inform the board of these questions or to further investigate the issues himself.

The SEC alleged that Ravel had a duty to ensure the accuracy and completeness of the statements in the company’s SEC filings, but that he "failed to take appropriate action with respect to significant red flags" concerning the CEO’s expenses and the related party transactions. The SEC alleged that these improper expenses and transactions could have been uncovered sooner had Ravel further investigated the red flags or hired outside counsel or others to do so.

Ravel agreed to a bar to serving as an officer or director of a public company for five years and to pay a $50,000 civil penalty.

As discussed in a March 31, 2010 memo from the Bingham McCutchen law firm discussing this enforcement action (here), even though this case involves "particularly egregious allegations," it nevertheless represents "an important precedent." Though the case does not mean that "an outside director has a duty to investigate and verify all facts contained in SEC filings," it "certainly indicates that were a director is aware of ‘red flags’ concerning potential improper conduct, the director must conduct a thorough investigation."

It is not unprecedented for the SEC to pursue enforcement actions against outside directors. Among other things, the SEC has pursued claims for insider trading and other violations on numerous occasions. The SEC even pursued options backdating related allegations against three former directors of Mercury Interactive (about which refer here).

It is, however, unusual for the SEC to pursue enforcement actions against outside directors for primary violations based on disclosure obligations. The SEC did, as discussed here, pursue an enforcement action against outside directors of Spiegel for actively and knowing participating in a decision to withhold filing the company’s 10-K, out of concern over revealing the company’s "going concern" audit opinion. That case also involved rather egregious facts (for example, there were facts suggesting the directors supported efforts to withhold the filing even after having been informed that withholding the filing might violate federal securities laws).

Though enforcement actions against outside directors for disclosure related issues may be relatively rare and may also involve unusual and arguable egregious circumstances, they nevertheless represent significant instances where outside directors faced significant exposures. The Bingham memo expresses the concern that the action against Ravel, and particularly the harshness of the sanctions imposed against him "may indicate a new aggressiveness by the SEC in its enforcement program against outside directors."

Though these examples of SEC enforcement actions against outside directors involve unusual circumstances, they do underscore the fact that outside board service does involve potential liability exposures for the outside board members. Among other implications from these exposures is the critical importance of the D&O liability insurance available to protect outside board members in the event these kinds of issues should arise.

The typical D&O policy would not provide coverage for the penalties that Ravel paid in resolution of the enforcement action against him. However, he undoubtedly incurred significant defense expense in connection with the SEC action. A director’s defense expenses incurred under these circumstances typically would be covered, at least with respect to expenses incurred in the enforcement action itself as well as in connection with any formal investigation preceding the action.

However, when a company encounters significant problems of the kind leading to SEC enforcement actions or even private securities litigation, there often are many demands on the D&O insurance policy. The concern that there will be sufficient funds available to protect outside directors when problems do arise raises very important implications about policy structure, as I discuss at greater length here.

The bottom line is that insurance questions surrounding these issues are critically important and they underscore the importance of having a knowledgeable and skilled insurance professional involved in the D&O insurance transaction.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

As the various year-end securities litigation studies have all shown, cases against financial services companies have dominated securities lawsuit filings for the last several years. But throughout that period, the plaintiffs’ attorneys have also continued to pursue claims against companies in other industries, particularly companies in the life sciences sector. A recent memorandum from David Kotler of the Dechert law firm entitled "Dechert Survey of Securities Fraud Class Actions Brought Against Life Sciences Companies" (here) takes a closer look at the securities lawsuits that were filed against life sciences companies in 2009.

According to the memo, there were 19 life sciences companies sued in securities class action lawsuits in 2009, representing roughly 10% of all 2009 securities suits. The 2009 filings against life sciences companies represents a slight decline from the 23 that were filed in 2008, but the proportion of all filings as the same, as the 23 filing in 2008 also represented about 10% of all filing. These proportions are slightly down from but roughly equal with the immediately preceding years – 14% in 2007, 13% in 2006 and 16% in 2005.

Consistent with prior years, the majority of 2009 life sciences company filings (12 out of 19) were brought against companies with market capitalizations under $250 million. This is roughly proportionate to the representation of companies of that size among all life sciences companies, as companies with market capitalizations under $250 million represent about 65% of all life sciences companies.

By contrast to prior years, but perhaps consistent with the overall economic environment, the 2009 life sciences lawsuits were more focused on allegations of financial improprieties rather than claims of misrepresentations involving industry-specific issues such as product safety or efficacy. Nine of the nineteen cases involved allegations of accounting improprieties, compared to six alleging misrepresentations involving product safety and six involving the prospects for or timing of FDA approval.

One particularly interesting section of the memorandum is its analysis of the current status of the securities lawsuits that were filed against life sciences companies in 2007. The memo reports that of the 25 life sciences lawsuits filed that year, 13 (or more than half) have either been dismissed or had summary judgment entered for the defense. As the memo notes this is "an exceptionally high rate of dismissals" (compared, for example, to the historical norms of securities lawsuit dismissals in the 33-40% range).

According to the memo, this dismissal rate suggests that "the securities fraud complaints brought against life sciences companies (at least in 2007) were not particularly well founded." The basis for dismissal of a majority of the dismissed cases was the plaintiffs’ failure to adequately plead scienter.

The memo includes a reference to the possibility, based on statements of DoJ officials, of life sciences companies’ increased exposure to FCPA enforcement proceedings, which also includes the possibility of civil litigation following on in the wake of disclosures of FCPA actions.

The memo’s analysis of the outcomes of the 2007 cases squares with my own perception that life sciences companies are frequently sued, perhaps more frequently than other companies, but that plaintiffs’ lawyers often have a hard time making the allegations stick. The memos analysis suggests that even if life sciences companies are sued more frequently than companies in other industries, the claims against life science companies may be dismissed more frequently as well.

Special thanks to David Kotler, the author of the Dechert memo, for sending me a copy of the memo.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

The sudden upsurge in the number of subprime and credit crisis-related securities lawsuit dismissal motion rulings, noted in yesterday’s post, is continuing. As outlined below, courts in four separate cases also recently issued rulings. Each of the cases involved ’33 Act claims brought by purchasers of mortgage-backed securities. In each case, a part of the plaintiffs’ cases survived the motions, although in two of the cases the outcome is at best a mixed bag for the plaintiffs.

Here are the four cases, in chronological order:

DLJ Mortgage Capital/Credit Suisse: In a March 29, 2010 order (here), Southern District of New York Judge Paul Crotty granted in part and denied in part the defendants dismissal motions in the subprime-related lawsuit that had been filed against DLJ Mortgage Capital, which had sponsored and sold the mortgage-backed securities; Credit Suisse Management, which had issued the offering documents; the offering underwriters; individual signatories to the offering documents and rating agencies.

Judge Crotty granted the motion to dismiss, on the grounds of lack of standing, with respect to four offerings referenced in the complaint in which the plaintiffs had not purchased securities.

Judge Crotty also granted the motion to dismiss regarding allegations based on the offering documents’ statements concerning the mortgage originators’ practices concerning appraisals, loan to value ratios and ratings, holding that these allegations are not actionable where "the Complaint fails to allege that the speaker did not truly believe the statements at the time it was made public."

However, Judge Crotty denied the motions to dismiss with respect to the plaintiffs’ allegations concerning the mortgage originators’ "systematic disregard of the mortgage underwriting guidelines." Judge Crotty rejected the defendants’ argument that the offering documents contained sufficient cautionary language, because "the disclosures fail to make clear the magnitude of the risk" adding that "the allegations here are extreme, yet plausible in light of the rapid and precipitous decline in market value, concurrent with skyrocketing mortgage loan delinquency rates and plummeting credit ratings."

Residential Capital LLC/RALI Certificates: In a March 31, 2010 order (here), Southern District of New York Harold Baer, Jr., citing his own prior ruling in the Royal Bank of Scotland/Harborview Mortgage Trust case (about which, refer to yesterday’s post, here), granted in part and denied in part the defendants’ motions to dismiss in the lawsuit brought with respect to mortgage-backed certificates issued by Residential Capital, known as RALI Certificates.

Judge Baer granted, based on lack of standing, plaintiffs’ allegations concerning 55 of the 59 offerings referenced in the complaint in which the plaintiffs had not purchased shares.

Judge Baer also granted the motions to dismiss with respect to the plaintiffs’ allegations that the offering documents failed to disclose that the credit rating model used to evaluate the securities was outdated and that the credit enhancements offered in connection with the securities were inadequate.

Judge Baer noted that "there is no allegation that these offerings did not receive the stated credit rating or credit enhancements detailed in the Offering Documents," and that "there is no factual allegation that indicates the ratings and credit enhancements described in the documents were incorrect at the time offered."

Judge Baer also granted the motion to dismiss with respect to the alleged failure to disclose material conflicts with the rating agencies, holding that the defendants had no duty to disclose this information.

However, Judge Baer denied the motion to dismiss with respect to the plaintiffs’ allegations that the originator of the mortgages collateralizing the RALI Certificates "systematically disregarded" the underwriting guidelines. Relying on his prior opinion in the Royal Bank of Scotland case, Judge Baer noted that that the allegations that about the mortgage originators "improper underwriting practices coupled with the loan pools’ near-total credit rating collapse and default rate spike are sufficient to create a fair inference that the [originator] totally disregarded the underwriting guidelines."

Citigroup Mortgage Loan Trust: In an April 6, 2010 order (here), Southern District of New York Judge Leonard Wexler held granted in part and denied in part the motions to dismiss in the lawsuit relating to mortgage-backed securities issued by Citigroup Mortgage. As in the cases discussed above, Judge Wexler dismissed the allegations relating to the 16 of 18 offerings referenced in the complaint in which the named plaintiff had not purchased securities.

With respect to the remaining allegations that the offering documents had misrepresented the underwriting standards used in connection with the underlying mortgages, including in particular the loan to value ratios, appraisals and debt to income ratios, Judge Wexler said that "the strong nature of the cautionary language contained in the disclosure materials brings this case very close to the dismissal line."

However, "given the length of the Complaint" and "the fact that most of the Plaintiffs’ claims have been dismissed," Judge Wexler concluded that he "will not dismiss the case at this time." Rather Judge Wexler gave the plaintiffs’ leave to replead the remaining causes of action, according to his very specific guidelines, which "will put the court in a better position from which to evaluate the merits of the claim alleged."

Deutsche Alt-A Securities: In a second opinion also issued on April 6, 2010 (here), Judge Wexler on substantially similar grounds as stated in connection with the Citigroup Mortgage Loan Trust case, granted in part and denied in part the defendants’ motions to dismiss in the securities suit relating to the mortgage-backed securities issued by Deutsche Alt-A Securities. As in the Citigroup case, Judge Wexler gave the plaintiffs leave to replead the remaining claims that were not dismissed due to lack of standing.

Discussion

Certain generalizations emerge from the recent surge in subprime and credit crisis securities lawsuit dismissal motions rulings. The first and most obvious is that plaintiffs are not going to be allowed to raise ’33 Act claims in connection with offerings in which they did not purchase securities. This could substantially narrow many of these cases.

On the other hand, the winning allegation for plaintiffs (which appears to have been repeated verbatim in many of these mortgage-backed securities offering cases) seems to be that the mortgage originators "systematically disregarded" the underwriting guidelines. Courts seem skeptical of allegations concerning outdated credit rating models, inadequate credit enhancements and rating agency conflicts of interest.

The name of the game for plaintiffs in these cases is to survive a dismissal motion, and the plaintiffs will generally put a dismissal motion ruling in the win column even if only a small part of the case survives. So even though big chunks of all of these cases were dismissed, there may be enough in each of these cases for these plaintiffs to live for another day.

However in the two opinions of Judge Wexler referenced above, in which he said he would not dismiss the remaining allegations "at this time," the plaintiffs’ position arguably is more precarious, as the plaintiffs must replead their remaining allegations, after which their remaining and repled claims apparently must again withstand judicial scrutiny.

The sudden cascade of dismissal motion rulings is quite remarkable. It is not entirely clear why there has suddenly been such an onslaught of rulings in these subprime and credit crisis related securities suits. To some extent, it may just be coincidental. It may also be due to the fact that many of these cases are now maturing and are reaching the stage where they are now finally ripe for dismissal motion rulings.

In addition, a number of these rulings seem to be emerging now because there is a developing body of case law providing guidance on how these cases should be sorted out. Each of the rulings cited recent decisions in similar cases. There is a certain sense that the basic ground rules have now been worked out, making it a lot more straightforward to work out the remaining cases.

But whatever the reason may be, there certainly are an awful lot of decisions coming down all of a sudden. It is getting hard just to keep track.

I have in any event added all of these recent rulings to my running tally of subprime and credit crisis securities suit dismissal motion resolutions, which can be accessed here.

Many thanks to a loyal reader for copies of the decisions in the Citigroup and Deutsche cases. Thanks also to Joel Laitman of the Cohen Milstein firm for providing copies of the rulings in the Residential Capital and DLJ Mortgage cases. Cohen Milstein is sole lead plaintiffs’ counsel in these latter two cases.

Note to Subscribers: I recently changed the service I use for delivery of email notifications to subscribers. If you have not been receiving email notifications, the most expeditious thing to do at this point may be to resubscribe by entering your email address in the Subscribe dialog box in the right hand column, clicking Go, and then clicking on the subscription confirmation link. It is my hope the new service will be more reliable and more timely. I apologize for any inconvenience the change may cause.　

• Email This
• Print
• Comments (1)
• Trackbacks
• Share Link

On April 6, 2010, PricewaterhouseCoopers issued this year’s version of its annual study of securities class action litigation (here). The PwC report differs in certain particulars from previously released studies of the 2009 securities lawsuit filings, but the overall findings are directionally consistent with the prior reports. PwC’s April 1. 2010 press release about its 2010 study can be found here.　

My own analysis of the 2009 securities lawsuit filings can be found here. Cornerstone’s previously released study of 2009 filings can be found here and Cornerstone’s study of the 2009 securities lawsuit settlements can be found here. NERA’s 2009 study can be found here and Advisen’s can be found here.

According to the PwC study, there were only 155 securities class action lawsuits in 2009. As discussed below, PwC’s lawsuit count differs materially from all other published account. Consistent with the other studies, however, PwC reports that the number of 2009 filings represented a significant decline from 2008, when, according to PwC, there were 210 filings.

With respect to the 2009 filings, PwC notes a "noteworthy trend" involving "the incidence of long delays between the end of the class period and the filing date of the case." The study notes that the 2009 average time lag of 219 days is almost double the average number of 114 days since the PSLRA was enacted.

The study also reports that a total of 34 cases were filed one year or more after proposed class period cutoff date, and also notes that most of these delayed cases were not related to the financial crisis. The study suggests that "plaintiffs’ attorneys may now be returning to where they left off before the financial crisis began." (My own most recent post concerning the belated lawsuit filings can be found here.)

For the second consecutive year, financial services companies were the most frequent securities lawsuit targets. Financial services companies were named in 41 percent of all filings, compared to 48 percent in 2008.

The concentration on financial services companies has meant a "two-year reprieve" for companies in the high-technology sectors. Traditionally these companies have been a favored target, representing, for example, 55 percent of all companies sued in 2001. By contrast, in 2009, high-tech companies were named in only 12 percent of all 2009 filings.

Filings against pharmaceutical companies have remained consistent. Since the enactment of the PSLRA, pharmaceutical companies have represented an annual average of eight percent of all filings, and since 2002, the average percentage of filings against pharmaceutical companies has represented double digit percentages. In 2009, new filings against pharmaceutical companies presented 14 percent of total filings.

New lawsuit filings against Fortune 500 companies represented 20 percent of all 2009 filings. Almost half of the Fortune 500 companies named in new securities suits in 2009 were financial services companies.

The average securities class action settlement in 2009 was $34.6 milllion, which is 20 percent lower than the $43.4 million settlement average in 2008, is above both the ten-year average of $31.5 million and the $30.7 million average since the enactment of the PSLRA. The average settlement value of cases that settled for $1 million or more and up to $50 million is $10.8 million, up slightly from $11.2 million in 2008. The median 2009 settlement was $9.5 million, up from $8.5 million in 2008.

(The settlement values, averages and medians exclude "outliers" but the study does not specify how outliers are defined. The PwC study assigns settlements to the year in which they were announced, by contrast to other studies which assign settlements to the year in which they are approved.)

The PwC study ends with the observation that though the number of securities class action lawsuits declined, companies should by no means "relax their guard." The study comments that the 2009 decline "may simply be a lull as the plaintiffs’ bar refocuses following two years of intense financial-crisis related filings."

Discussion

PwC is one of several organizations providing a substantial public service by making its annual securities litigation surveys publicly available, for free. The firm’s willingness to share its analysis and insights is a boon for which the rest of us should be very grateful.

There is a certain audience that is very keenly interested in these reports. Virtually every member of this audience reads all of these reports as they are published. For example, the typical reader of the PwC report has already read all of the other annual reports that I listed and linked to above.

Because of this general audience familiarity with all of these published reports, it is probable that most readers are fully aware of the material difference between the lawsuit count published in PwC’s report and those that appeared in the other published versions. By way of example and by contrast to the 2009 lawsuit count of 155 that PwC reported, my own count was 189. Cornerstone’s latest updated 2009 lawsuit count is 178. NERA’s projected number (released before year end) was 235.

In the absence of explanation, these differences can vexing and frustrating for the readers of these reports, who, as I mentioned, will typically read all of these reports.

There is absolutely no reason why the counts should agree. I know from maintaining my own count that reasonable minds can differ about how to count and whether or not to include certain kinds of cases. But though the counts almost as a matter of course will differ, the authors of the various counts owe it to their audience – which, again is going to be reading all of the various studies – to at least say why their counts differ from other published accounts.

One explanation for the difference between the PwC count and some other published counts is that PwC (as explained on the study’s "methodology" page) counts "multiple filings against he same defendant with similar allegations" as one case. Some other studies, for example, the NERA study, will count separate filings against the same defendant as separate lawsuits. But that distinction does not account for the difference between the PwC study and, for example, the Cornerstone study and my own count, both of which count related filings only once.

The PwC 2009 lawsuit count comes in at some 20 to 30 cases lower than Cornerstone’s and my count. Obviously, PwC counted something differently or left some things out. Obviously, PwC knows its counts are different and they know why, or could easily determine why, because Cornerstone publishes on the web the identities each of the cases that it counts. Given how easy it is for PwC to identify these differences and how easy it would have been to tell its audience of readers, it would have been far preferable if they could have acknowledged and explained these differences.

As I said before, the rest of us should be grateful that PwC and other firms are willing to share their data and analysis. But it doesn’t seem too much to suggest that these various publications could do a little bit more for their audience and acknowledge that their publication does not appear in a vacuum. Its audience is going to read each report in the context of the other reports.

The firms publishing these reports would substantially enhance the value of their annual studies to their intended audience if they would simply explain their counting methodology in greater detail and in particular how that methodology may explain differences from other published reports.

Again, there is absolutely no reason why the reports should be the same. There is absolutely no reason why the reports should use the same or even similar methodologies. But the reports’ audience would be grateful if they might better understand why they differ.

These various publishers would significantly enhance the value of their publications to their intended audience if they would simply acknowledge that each other exists.

Note to Subscribers: I recently changed the service I use for delivery of email notifications to subscribers. If you have not been receiving email notifications, the most expeditious thing to do at this point may be to resubscribe by entering your email address in the Subscribe dialog box in the right hand column, clicking Go, and then clicking on the subscription confirmation link. It is my hope the new service will be more reliable and more timely. I apologize for any inconvenience the change may cause.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

I was only away from the office for a few days last week, but while I was away, an absolute cascade of dismissal motion rulings in subprime and credit crisis-related securities cases arrived. A number of the rulings were sufficiently favorable to the defendants that Alison Frankel commented in an April 1, 2010 article in the AmLaw Litigation Daily that "it’s been a truly lousy week for plaintiffs’ lawyers in the securities bar."

But while the defendants did indeed prevail in there motions to dismiss in a number of very high profile subprime and credit crisis-related securities lawsuits, not all of the rulings were favorable to the defendants. In several cases, the dismissal motions were denied, and in other cases enough of the case survived the dismissal motion rulings that the plaintiffs probably consider themselves to have been successful. As discussed further below, there arguably are certain discernable trends amongst all of these rulings.

Dismissal Motions Granted

The dismissal motion rulings that are most favorable to the defendants undoubtedly are the highest profile cases amongst the latest rulings. Here is a brief summary of the defense friendly rulings:

American International Group Derivative Litigation: In a March 30, 2010 opinion (here), Southern District of New York Judge Laura Taylor Swain granted the motion to dismiss the shareholders’ derivative suit that had been filed against American International Group and certain of its individual officers and directors. The plaintiffs claimed that the defendants had failed to properly oversee the company’s credit default contracts and had made certain material misstatements and omissions regarding the company’s financial health and risk management. The plaintiffs also allege waste and breach of fiduciary duty with regard to the company’s dividend increase and share buybacks instituted in the month’s preceding the company’s near collapse and government rescue.

The defendants moved to dismiss on the grounds that the plaintiffs failed to make presuit demand. The plaintiffs contended that because it would have been futile, demand was excused.

Judge Swain granted the defendants’ motion, concluding that because at least of five of the company’s nine June 2009 directors were sufficiently disinterested and independent, demand was not excused.

Of particular interest, in granting the defendants’ motion with respect to plaintiffs’ allegations concerning the alleged failure to oversee the company’s credit default swap exposures, the court specifically observed (in reliance on the Delaware Chancery Court’s February 2009 dismissal of the subprime-related derivative suit filed against Citigroup) that a plaintiff "may not support a claim based on the duty of oversight…merely by identifying signs of general difficulty in the market in which the company participates and asserting that the defendants should be held liable for exercising their business judgment in a manner that appears to have been inconsistent with those indications." Rather a plaintiff must allege that the directors "knew they were not discharging their fiduciary obligations" or "demonstrated a conscious disregard for their obligations."

Merrill Lynch Auction Rate Securities Litigation: In a March 31, 2010 ruling (here), Judge Loretta Preska granted the motion of defendants to dismiss the auction rate securities litigation that had been filed against Merrill Lynch and related entities. Judge Preska’s ruling is the latest in a series of auction rate securities lawsuit dismissals. However unlike many of the dismissals (for example, the dismissal of the UBS auction rate securities lawsuit), the dismissal did not depend alone on the Merrill Lynch’s entry into a regulatory settlement. The dismissal was, rather, on the merits.

Specifically, Judge Preska held, citing the recent ruling in the Raymond James auction rate securities litigation (refer here), that the plaintiffs had failed to allege with sufficient specificity, with respect to the allegedly misleading statements about the securities, "which financial advisors made such statements or when, where and to whom the statements were made."

Judge Preska also rejected the plaintiffs’ arguments that the defendants had engaged in manipulative conduct, holding that as a result of the defendants’ 2006 auction rate securities settlement with the SEC and related disclosures, the defendants’ market-related conduct was fully disclosed. Judge Preska also found that the plaintiffs had not sufficiently pled reliance.

In addition to the ruling in the Merrill Lynch case, in a March 30, 2010 order (here), Southern District of New York Judge Robert Patterson granted the motion of defendant Morgan Stanley to dismiss the individual action Ashland Inc. and related entities had filed against the company, alleging securities violations in connection with the plaintiffs’ purchase of over $66 million of auction rate securities. Judge Patterson found that certain allegations do not involve the "purchase or sale of securities," as they involved only the alleged inducement to hold securities. Judge Patterson also found that the plaintiffs’ allegations failed to support a strong inference of scienter. He also held that the plaintiffs had failed to establish that they had reasonably relied on the supposedly misleading statements.

Fremont General Corporation: In a March 29, 2010 order (here), Central District of California Judge Jacqueline Nguyen granted with prejudice the motion of defendants to dismiss the subprime related securities class action lawsuit that had been filed against Fremont General Corporation.

As noted here and here (scroll down), the court had previously granted the defendants’ motions to dismiss in the Fremont General case. In granting the renewed motion to dismiss, Judge Nguyen noted that renewed pleading "still fails to allege the causes of action with sufficient specificity," observing further that the plaintiffs’ third amended complaint "sets forth virtually no new facts, disregards [the court’s] order not to include certain allegations, and constitutes ‘puzzle pleading’ that made the [prior complaints] so difficult to decipher."

BankUnited Financial Corporation: On March 30, 2010, Southern District of Florida Judge Marcia Cooke entered an order (here), granting the motion of the individual defendants to dismiss the subprime related securities lawsuit that had been filed in connection with the events leading up to the May 21, 2009 closure of BankUnited FSB (for more about which refer here).

In granting the motion, Judge Cooke held that that certain of the statements on which plaintiffs sought to rely were "general, vague, unverifiable statements of corporate puffery." She found that other statements on which plaintiffs sought to rely were forward looking and protected by the safe harbor. She also found that various statements about the bank’s loan underwriting practices on which the plaintiffs sought to rely were not false and misleading. Judge Cooke also concluded that the plaintiffs had not sufficiently pled scienter, holding that the "generalized allegations" on which the plaintiffs sought to rely "do not support a strong inference of scienter, let along a strong one. "

Security Capital Assurance: In a March 31, 2010 order (here), Southern District of New York Judge Deborah A. Batts entered an order granting without prejudice the defendants’ motions to dismiss in the subprime-related securities class action lawsuit that had been filed against Security Capital Assurance, its Corporate parent XL Capital, certain of its individual directors and officers and its offering underwriters.

SCA is a holding company for financial guaranty insurance and reinsurance. SCA was formed by and was still partially owned by XL. As reflected here, the plaintiffs alleged that the defendants had misled investors about SCA’s exposure, through its insurance operations, to securities backed by subprime residential mortgages.

In her 84-page March 31 order, Judge Batts granted defendants’ motion on the grounds that plaintiffs had not sufficiently alleged either scienter or loss causation. In concluding that plaintiffs scienter allegations were insufficient, Judge Batts stated that "plaintiffs’ broad allegations that Defendants received and were aware of information contradicting their public statements because they held management roles is not enough to allege scienter." Judge Batts also noted, based on plaintiffs’ own allegations, "defendants, like so many other institutions floored by the housing market crisis, could not have been expected to anticipate the crisis with the accuracy plaintiffs enjoy in hindsight."

In finding that plaintiffs had not adequately alleged loss causation, Judge Batts stated that "Plaintiffs have not with this Complaint effectively shown that it was the incremental revelation of Defendants’ fraudulent misrepresentations, and not the actions of third parties or other circumstances of the market that caused the decline in SCA’s share price over the Class Period." She adds that "Plaintiffs leave wide periods unaccounted for, and select inconsistent date spreads and wide event windows that permit market noise, and suggest Plaintiffs may be cherrypicking dates that suit their argument."

With respect to whether or not she should allow plaintiffs leave to amend, she noted that "it is not likely that Plaintiffs will be able to establish loss causation." But because "amendment might not be futile," the court allowed plaintiffs leave to amend their complaint.

Dismissal Motion Granted in Part and Denied in Part

In addition to the dismissal motion rulings described above in which the defendants’ motions prevailed, there were also a group of rulings in which the defendants prevailed in part. In some cases, the defendants were successful in having substantial parts of the plaintiffs’ cases dismissed. Nevertheless, in each of the following cases, the plaintiffs were able to preserve at least a part of their case, at least as to some defendants.

Harborview Mortgage Loan Trusts: In a March 26, 2010 order (here), Southern District of New York Judge Harold Baer, Jr. granted in part and denied in part the defendants’ motions to dismiss in the subprime related securities class action lawsuit involving the Harborview Mortgage Loan Trusts. The Trusts had issued certain mortgage backed securities, of which defendant Royal Bank of Scotland was the primary issuer and underwriter. Certain rating agencies that provided ratings of the securities were also named as defendants.

Judge Baer granted the rating agencies’ motions to dismiss on the grounds that they could not, as the plaintiffs’ sought to allege, be held liable under the Securities Act, as underwriters. Judge Baer also dismissed, on the basis of lack of standing, plaintiffs claims based on offerings in which the plaintiffs had not purchased securities. Judge Baer also dismissed plaintiffs’ claims that the RBS defendants had not disclosed conflicts of interest with the rating agencies or the dependence of the ratings on outdated ratings models.

However, while as a result of the rulings described in the preceding paragraph, substantial parts of plaintiffs’ claims did not survive the motion to dismiss, Judge Baer denied defendants motions to dismiss related to "misstatements and nondisclosure of mortgage originators’ ‘disregard’ for loan underwriting standards."

The loan originators in question included certain mortgage lenders whose names "are now synonymous with sub-prime lending and the housing market collapse," including Countrywide, American Home Mortgage Corporation, IndyMac, BankUnited, and Downey Savings. Judge Baer concluded that "plaintiffs have pled sufficient factual allegations to plausibly infer that the underwriting guidelines were disregarded by mortgage originators, and in conflict with the disclosures made in the Offering Documents." Judge Baer found the plaintiffs had alleged that the originators "systematically ignored their stated underwriting practices" and that "plaintiffs have also sufficiently, albeit just barely, connected these allegations to the offerings in question."

Credit-Based Asset Servicing & Securitization, LLC: In a terse, two-page March 31, 2010 order (here), Southern District of New York Judge Jed Rakoff granted in part and denied in part the defendants’ motion to dismiss that had been filed in the C-BASS subprime related securities lawsuit. Background regarding the lawsuit can be found here. The plaintiffs had alleged that the defendants had made material misrepresentations and omissions in the offering documents related to the sale of certain mortgage pass-through certificates.

For reasons that Judge Rakoff will elaborate upon in a forthcoming order, Judge Rakoff granted in part and denied in part the defendants’ dismissal motions. Judge Rakoff granted the dismissal motion as to claims involving offerings in which the plaintiffs had not purchased securities. Judge Rakoff also granted with prejudice the dismissal motions of the underwriter defendants, C-Bass itself and certain mortgage originator defendants. Judge Rakoff also granted without prejudice the dismissal motions of the offering underwriter defendants, as well as the Section 15 claims against certain individual defendants.

Though these rulings resulted in the elimination from the case of a substantial part of plaintiffs’ case, Judge Rakoff went on to rule that, other than the parts dismissed, "all other claims survive." According to an AmLaw Litigation Daily article discussing the decision (here), though Judge Rakoff’s ruling dismissed with prejudice plaintiffs claims on 65 offerings, his ruling also "keeps Merrill and other defendants exposed to liability on 19 mortgage-backed securities offerings."

MBIA: In a March 31, 2010 order (here), Southern District of New York Judge Kenneth Karas granted in part and denied in part the dismissal motions that had been filed in the subprime related securities class action lawsuit that had been filed against MBIA and certain of its directors and officers. MBIA provides insurance to traditional bond and structured finance issuers. As discussed at greater length here, the plaintiffs allege that the defendants misrepresented MBIA’s risk exposure to certain collateralized debt obligations containing residential mortgage-backed securities.

In his March 31 order, Judge Karas granted without prejudice the motions to dismiss of the two individual defendants, finding that the plaintiff had failed to "allege particularized facts sufficient to state a claim based on recklessness against" the two individuals. Judge Karas also dismissed without prejudice plaintiffs’ allegations against MBIA as to claims based on the company’s alleged failure to disclose the lack of certain structural protections for in the insurer in certain of the CDO transactions.

However, Judge Karas otherwise denied MBIA’s motion to dismiss, holding that even though the plaintiff had failed sufficiently to allege scienter as to the two individual defendants, the plaintiff "has alleged particularized facts supporting a strong inference of recklessness as to MBIA." He went on to find that "the inference that MBIA’s officers knew or likely knew that their statements were materially misleading" is "at least as plausible an inference that they were not aware of the potential importance of CDOs-squared to investors."

Dismissal Motions Substantially Denied

In addition to the motions described above in which a least a portion of plaintiffs claims survived the motions to dismiss, there were at least a couple recent dismissal motion rulings in which the plaintiffs’ claims substantially survived the dismissal motions rulings.

iStar Financial, Inc.: In a March 26, 2010 order (here), Southern District of New York Judge Richard Sullivan substantially denied the defendants’ motion to dismiss in the subprime-related securities lawsuit that filed against iStar Financial, certain of its directors and officers, and its offering underwriters. iStar is a real estate investment trut providing commercial real estate loans. The plaintiffs alleged that iStar had failed to disclose losses on certain investments, losses in its loan portfolio, and had misrepresented the carrying value of certain nonperforming loans.

Judge Sullivan denied the defendants motions to dismiss, other than with respect to the Section 12 claims against the individual defendants and the Section 11 claims as to one individual defendant.

In otherwise denying the motion to dismiss plaintiffs’ ’33 Act claims, Judge Sullivan rejected the defendants’ arguments that the quarterly reports and earnings calls preceding the company’s secondary offering put the market on notice of deteriorating loan performance. He stated that the Court is "unable to hold that there was sufficient information in the marketplace to render iStar’s nondisclosures in the registration statement immaterial as a matter of law." Judge Sullivan specifically rejected the underwriter defendants’ motions to dismiss.

Judge Sullivan also found that the plaintiffs had adequately alleged a claim under the ’34 act, specifically finding that the plaintiffs had adequately pleaded scienter, relying on plaintiffs’ allegations that defendants needed to conceal iStar’s deteriorating performance "to secure financing and mating an investment-grade rating."

Evergreen Ultra Short Opportunities Fund: In a March 31, 2010 ruling (here), District of Massachusetts Judge Nathaniel Gorton substantially denied the defendants’ motions to dismiss in the subprime-related securities class action lawsuit filed on behalf of investors who purchased shares of Evergreen Ultra Short Opportunities Fund. The plaintiffs sued the trust that issued the fund’s shares, the fund’s investment manager and its corporate parent, as well as individual members of the trust’s board of trustees. The plaintiffs alleged that the defendants had violated the securities laws by representing the fund as a "safe, liquid and stable investment" when, it was alleged, "it was comprised of illiquid, risky and volatile" mortgage-backed securities.

Judge Gorton denied the defendants’ motions to dismiss, except that he granted the trustees’ motion to dismiss the Section 12 claims that had been filed against them. Judge Gorton specifically found as sufficient plaintiffs’ allegations concerning the offering documents’ statements about the fund’s objectives; the offering documents’ statements about the fund’s limited holdings of illiquid assets; and the offering documents’ statements comparing the fund to certain indices which reflected longer average portfolio durations than the fund.

Discussion

There is little doubt that this line up of dismissal motion rulings reflects some significant defeats for the plaintiffs. The impact of these decisions undoubtedly is magnified by the high-profile nature of several of the cases in which the dismissals were granted.

But while the plaintiffs in some of these cases took some substantial hits, the overall outcome of this long list of dismissal motion rulings is far from just one-sided. There are of course the cases noted above in which the dismissal motions were substantially denied. Moreover, in the cases in which the dismissal motions were denied at least in part, the plaintiffs at least preserved the right to live for another day. Since the name of the game for the plaintiffs’ attorneys in these kinds of cases is just to get past the dismissal motion, the plaintiffs in these cases have preserved at least enough of their case to press on.

Though the plaintiffs did not come away empty handed in all of these cases and won some other motions more or less outright, the balance of these cases still do seem to be running in the defendants’ favor. As I noted in my recent status update on the subprime and credit crisis related securities litigation, the dismissal motion rate on these cases is running far higher than the 33-40% dismissal rate that generally applies to securities class action litigation.

To be sure, as I have frequently noted in the past, there are still many of these cases in which dismissal motions have not yet been heard. But with this recent wave of dismissal motion ruling described above, a significantly greater number of dismissal motions have been addressed, and the rulings do still seem to be running in defendants’ favor, disproportionately to historical norms.

Of course, it should be noted that there have been cases in which plaintiffs have managed to survive renewed dismissal motions based on amended pleadings filed after initial motions have been granted (as noted, for example, here, in connection with the Credit Suisse case).

I have in any event added all of these recent rulings to my now substantially updated register of subprime and credit crisis-related securities class action lawsuit dismissal motion rulings, which can be accessed here.

Very special thanks to the several readers who sent along copies of one or more of the above referenced decisions.

Subscription Update: As I have tried to let everyone know, I recently changed the service that I use for email subscription notices. It is my hope that the new service will afford more timely and more reliable service. Readers who subscribed in the past to receive email notices should have received during the past week a reminder to reconfirm their subscription. If you did not receive a notice, or if you deleted it without reconfirming, the most expeditious thing to do is to resubscribe by entering your email address in the Subscribe box in the right hand column and click Go. As an antispam measure, you will then be asked to confirm your subscription.

As I said, it is my hope that by switching services, I will be able to provide more reliable email notifications. I apologize for any inconvenience that the change may cause.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

Last week (of March 29, 2010), I changed the service I use to distribute my email notifications. My hope is that this new email distribution service will provide subscribers with more timely and more reliable email notifications. In order to ensure continued receipt of email notification, subscribers will need to reconfirm their subscription.

On Monday, March 29, 2010, or within a day or two thereafter, all subscribers should have received an email from me at The D&O Diary, with instructions on how to resubscribe. This process should be relatively simple and should involve little more than clicking on al link and entering your email address. Again, all subscribers will need to resubscribe in order to continue to receive email notifications.

As you have probably noticed, I didn't add any new content last week, while these changes were taking place, so the first email notifications from the new service will not appear until this week, of April 5, 2010.

I hope that all will go smoothly and I apologize for any inconvenience this switchover may cause. As always please let me know if you are have any difficulty with the email subscriptions or otherwise.

I look forward to communicating with readers again this week.

• Email This
• Print
• Comments
• Trackbacks
• Share Link