In a January 12, 2010 opinion (here) in a subprime-related securities suit involving Goldman Sachs-issued mortgage pass-through certificates, Southern District of New York Judge Harold Baer, Jr. granted the rating agency defendants’ motion to dismiss on the grounds that they are not "underwriters" under Section 11, but denied the Goldman Sachs defendants’ motion to dismiss, at least as to the securities offerings in which the plaintiffs had actually purchased shares.


Although Judge Baer’s closely follows other decisions in similar cases, it also diverges from other recent decisions in certain respects, including a recent decision in a separate case in the same courthouse involving other Goldman Sachs-issued mortgage pass through certificates.



Goldman Sachs and related entities sold over $2.6 billion in mortgage pass-through certificates in three offerings from three issuing trusts between February 2, 2006 and March 28, 2006. The credit rating agencies assigned AAA ratings or their equivalent to the certificates. The named plaintiff in the case purchased securities in only one of the three trusts.


The plaintiffs filed their initial securities class action complaint February 6, 2009. The plaintiffs alleged that the originators of the mortgages underlying the certificates had "systematically disregarded" their own underwriting standards in originating the mortgages, contrary to the representations about the originators’ underwriting practices in the offering documents.


The defendants moved to dismiss.


The January 12 Opinion

The plaintiffs had named the credit rating agency as defendants and sought to hold them liable on the theory that, as a result of the involvement in structuring the securities, the credit rating agencies had acted as "underwriters" within the meaning of Section 11 of the Securities Act of 1933.


In rejecting this theory, Judge Baer observed that:


While the Rating Agency Defendants may have played a significant role in the ability of other defendants to market the securities at issue, and if we were writing on a clean slate, their liability might be presumed, the fact is we are not writing on a clean slate and, for the moment at least, the law insulates them from exposure under section 11 and they must be dismissed.


Judge Baer similarly had little trouble granting the defendants’ motions to dismiss the plaintiffs’ claims as to the two of the three securities offerings in which the plaintiffs had not purchased any securities. Referring to many other cases in which plaintiffs were held to lack standing under similar securities, Judge Baer said "I concur with these well reasoned and common-sense opinions that Plaintiff needs to show an injury connected with the offerings it challenges as misleading, and therefore Plaintiff’s claims with regard to Certificates they did not purchase …are dismissed for lack of standing."


However, Judge Baer rejected the Goldman defendants’ bid to have the plaintiffs’ remaining claims dismissed.


First, Judge Baer rejected the defendants’ bid to have the claims dismissed on statute of limitations ground. Specifically, he rejected that defendants’ contention that the plaintiffs had been put on ""inquiry notice" of possible misrepresentations more than a year before the plaintiffs filed their suit.


Judge Baer found that neither the December 2007 ratings downgrade of the securities nor generalized press coverage about problems with loan originators’ underwriting practices were sufficient to put the plaintiffs on inquiry notice, because this information did not "directly relate" to the misrepresentations that the plaintiffs alleged in this lawsuit.


Second, Judge Baer rejected the defendants’ argument that the plaintiffs had not suffered any cognizable loss, noting that "here, plaintiff alleges that it purchased the Certificates at par value of $99.99 and later sold the Certificates, before it filed this action, at a par value of $16.15. Section 11 does not require Plaintiff to allege more."


Finally, Judge Baer rejected the defendants’ argument that the plaintiffs had not alleged any action misrepresentation, noting that the plaintiffs had alleged that the mortgage originators "systematically disregarded" their supposed underwriting standards, and therefore the offering documents "did not put investors on notice as to the underwriting practices that the loan originators were using, and therefore obscured the actual level of risk faced by investors who purchased the Certificates."



Several aspects of Judge Baer’s opinion closely track other rulings in similar cases. For example, his ruling that the rating agencies are not "underwriters" within the meaning of Section 11 follows a growing line of decisions reaching the same conclusion, including Judge Kaplan’s ruling in the Lehman Brothers case (about which refer here).


Similarly, his ruling that the plaintiff lacked standing to assert claims based on offerings in which it had not purchased shares is consistent with rulings in many other subprime-related cases, in which the plaintiffs in those cases were similarly found to lack standing to assert claims based on shares they had not purchased (about which, refer for example, here).


In addition, his ruling that the plaintiffs had alleged actionable misrepresentations based on the mortgage originators’ alleged "systematic disregard" of their underwriting practices is consistent with rulings in other mortgage-backed securities lawsuits in which plaintiffs were found to have adequately asserted claims of misrepresentation based on similar allegations that the mortgage originators had "systematically disregarded" the stated underwriting standards (about which refer here).


However, Judge Baer’s decision arguably diverges from other recent rulings, including even one recent ruling in a case involving similar Goldman-Sachs issued mortgage pass-through certificates.


Thus, an October 14, 2010 ruling in a case involving Goldman Sachs mortgage pass through certificates issued in 2007 (in offerings subsequent to the offerings at issue in the case before Judge Baer), by Southern District of New York Judge Miriam Cedarbaum held that the plaintiffs in that case had failed to allege "cognizable injury" under Section 11, by contrast to Judge Baer’s ruling that the plaintiffs in this case had adequately alleged cognizable injury.


The difference in the two rulings may be understood by an important difference between the two plaintiffs’ circumstances. In Judge Baer’s case, the named plaintiffs had actually sold the securities at issue at a steep loss. By contrast, Judge Cedarbaum found in that the plaintiffs in the case before her could only assert that they would lose money in a hypothetical sale of their securities. She found that it was not sufficient for the plaintiffs’ to allege injury based on an alleged hypothetical price on the secondary market at the time of the suit, without alleging that a secondary market actually exists. She found that the plaintiffs had failed to allege any facts regarding the actual market price.


There is a certain ironic tension between the two lawsuits, as the sale alleged in the lawsuit before Judge Baer showed what Judge Cederbaum had said the plaintiffs’ allegations in her case lacked – clearly, the sale in the case before Judge Baer showed there was some form of a functioning market for securities of this type, and that securities in that market were trading at a steep discount.


Judge Baer’s statute of limitations ruling also diverges somewhat from Judge Paul Crotty’s ruling just a few days ago in the subprime-related securities suit involving Barclays (about which refer here). In the Barclays case, Judge Crotty granted the defendants’ motion to dismiss on statute of limitations grounds based on his conclusion, contrary to Judge Baer’s ruling in this case, that the plaintiffs had been put on inquiry notice.


The difference in outcome between the two rulings may be understood by the specific event that Judge Crotty found to have put the plaintiffs in that case on inquiry notice, which was a Trading Update that Barclays itself had issued and that he found to have contained revelations about the very circumstances on which the plaintiffs were basing their allegations in that case. By contrast, in the case before Judge Baer, the communications on which the defendants sought to rely to show that the plaintiffs were on inquiry notice were not issued by Goldman Sachs and did not, according to Judge Baer, "relate directly" to the alleged misrepresentations.


While Judge Baer’s various rulings in this case substantially narrowed the plaintiffs’ claims, the plaintiffs’ ’33 Act allegations against the Goldman defendants survived, at least as to the securities in which the plaintiffs had invested, which stands in significant contrast to the claims of the plaintiffs in the other Goldman-related case before Judge Cedarbaum and to the claims of the plaintiffs in the Barclays case.


I have in any event added Judge Baer’s ruling to my running tally of subprime-related securities lawsuit dismissal motions rulings, which can be accessed here.


Alison Frankel’s January 14, 2011 Am Law Litigation Daily article about Judge Baer’s ruling can be found here.


Interview with Bill Lerach: If you have not yet seen Nathan Koppel’s January 14, 2011 interview of Bill Lerach on the Law Blog, you will definitely want to take a few minutes to read the item, which can be found here. Lerach has a number of interesting observations about his time in prison and in a half way house, as well as about his present circumstances.


My review of the recent biography of Lerach can be found here. Lerach also recently wrote a guest post on this blog, which can be found here.


A Contrary California Opinion on the Triggers of Excess Coverage: In an number of recent rulings, including a California case involving Qualcomm, several courts have held that the payment obligations of excess D&O insurers are not triggered if the underlying insurance is not exhausted by payment of loss, even if the policyholder funded the gap out of its own resources.


However, as discussed in a January 14, 2011 memorandum from the Wiley Rein law firm (here), the California Court of Appeal, declining to follow the Qualcomm decision , held that an excess insurer’s coverage obligation was triggered even though the underlying insurers had settled for less than their policy limits. The outcome of the case turns in large part on the nature of the settlement of the underlying claim and rather arcane distinctions between "horizontal exhaustion" and "vertical exhaustion." The Wiley Rein memo does an admirable job explaining relevant circumstances and the sense of the court’s analysis.


A Few Words of Support for Those Struggling With New Year’s Resolutions: The January 15, 2011 Wall Street Journal had a somewhat snarky front-page article about how health clubs are jammed up with "pudgy" newcomers trying to keep up with their New Year’s resolutions, making life unpleasant for the regulars.


I have observed this same phenomenon in many gyms and health clubs in many different parts of the country over the years, including also the club to which I currently belong. There is no doubt that for the first few weeks of January every year, health clubs are notably more crowded and notably less pleasant, and problems do arise when newcomers violate unwritten rules of protocol.


However, I think the Wall Street Journal article is both unfair to the newcomers and omits the one critical piece of information that every newcomer needs to know.


The unfairness comes from the fact that the newcomers just want to get into shape and it is not their fault that out of simple unfamiliarity they don’t know the unwritten rules. The whole reason they are there is that they want to do something about the fact that they haven’t been spending enough time in the gym. If they have paid their fees, they are every bit as much entitled to the precious gym space as the regulars are. I have always found that a bit of patience and a friendly word of encouragement takes care of most situations arising from newcomers’ unfamiliarity with the expectations of other users.


The one critical piece of information the newcomers need to know is that the New Year’s crush only lasts a few days. By Martin Luther King Day, most of the hubbub has died down, and by February 1, everything is back to normal. The sad part is that the reason everything is back to normal is that almost all of the newcomers have become discouraged and deterred from coming back..


If I had one word of advice for the newcomers, it would be to postpone their New Year’s fitness resolve until February 1. Then the newcomers will find the gym a much more relaxed and less crowded place, and the newcomers might not be as discouraged and might even have a better shot of sticking with their resolution.


If you are one of the many who decided this New Year’s to try to get back into shape, please just stick with it for a few more days – within a week or two, the gym will not be nearly as crowded, and you will find it much more pleasant to complete your work out. The first two weeks of the year is the worst possible period to be trying to start a new fitness regime. For the remaining 50 weeks of the year, it will not be as challenging to fulfill your resolution. So hang in there.


Year End 2010 Securities Litigation Overview: On Friday January 21, 2011, at 11:00 am EST, I will be participating in a free webinar on the topic "Year End 2010 Securities Litigation Overview," sponsored by the insurance information firm, Advisen. Other panelists participating in the webinar include David Bradford of Advisen, Kevin Mattesich of the Kaufman Dolowich law firm, as well as an insurance company underwriter and a member of the plaintiffs’ bar. Further information about the webinar, including registration instructions, can be found here.