Securities class action lawsuit filing activity seems to have picked right up in the New Year where last year’s filings left off, as what appears to be the first filed case of 2012 involves a U.S.-listed Chinese company. Camelot Information Systems, a Chinese-based company whose American Depositary Shares (ADS) trade on the NYSE, and certain of its directors and officers have been sued in a securities class action lawsuit dated January 5, 2012. A copy of the plaintiff’s complaint can be found here.

 

Camelot is a provider of IT business solutions. Unlike many of the other U.S.-listed Chinese companies that have been sued in securities suits involving Chinese companies, Camelot did not obtain its listing by way of a reverse merger; it actually conducted a full IPO, in July  2010. The company also conducted a secondary offering on December 9, 2010. 

 

The company was the subject of an August 15, 2011 article on Seeking Alpha entitled “Extremely Cautious on Camelot Information Systems” (here) that questioned the company’s statements regarding its employees, revenue and other key business components. The company’s ADS price declined. On August 19, 2011, the company released its fiscal second quarter results and also lowered its guidance for fiscal 2011. Its ADS price declined further.

 

According to the plaintiffs’ lawyers’ January 5, 2012 press release (here), the complaint alleges that the defendants concealed from investors that:

 

(a) the Company’s IT professionals were not a competitive advantage to the Company and many were dissatisfied with Camelot, which would adversely affect Camelot’s ability to retain its customers; (b) the Company was suffering from undisclosed attrition of employees, which was having a negative impact on the Company’s ability to attract new customers; (c) Camelot did not have the large numbers of highly trained professionals at its disposal that it had represented; and (d) Camelot’s contract with its most important customer, IBM, was not as solid as represented, and would not be renewed on the same terms.

 

The complaint also names as defendants the offering underwriters that conducted the companies ADS offerings.

 

As I recently noted (here), lawsuits against U.S.-listed Chinese companies were one of the most significant parties of 2011 securities suit filings. The 39 lawsuits filed against Chinese companies represented nearly one fifth of all 2011 securities class action lawsuit filings. Although these filings were weighted to the first half of the year, there were 13 in the year’s second half, including two in December.

 

Eventually this filing trend will go away, as the plaintiffs’ lawyers sooner or later run out of additional Chinese companies to sue. But for now the filing trend appears to have carried over into the New Year, with the filing of this new lawsuit involving Camelot Information Systems.

 

Deloitte Must Produce Longtop Financial Documents: In an interesting development in connection with the SEC’s investigation of Longtop Financial Technology, a Chinese companies who had been delisted from a U.S. exchange, on January 4, 2012, a Magistrate Judge for the U.S. District Court for the District of Columbia ruled that Deloitte Touche Tohmatsu Ltd. must appear in court ad produce documents on work the firm did for Longtop. The Magistrate ruled that Deloitte could be compelled to appear even though it had not been served with a show-cause memorandum. A copy of the Maistrate’s january 4, 2012 order can be found here. A January 4, 2012 Blog of the Legal Times article discussing the ruling can be found here.

 

 

The year just ended was eventful in many ways. Earthquakes, hurricanes, tornadoes, floods, blizzards and droughts were scattered across the globe, and political unrest shook many countries. In a year filled with such significant developments, events in the world of D&O liability pale by comparison. But even if there were no earth-shaking events, 2011 was nevertheless an eventful year in the directors and officers’ liability arena. Here is my selection of the top ten stories from the world of D&O.

 

1. M&A Litigation Becomes the Lawsuit of Choice for Plaintiffs’ Securities Attorneys: The traditional focus for any discussion of D&O litigation exposure has been federal securities class action litigation. But in recent years, there has been a shift in the mix of corporate and securities litigation filings. Taking into account both federal and state lawsuit filings, M&A-related lawsuits now outnumber federal securities lawsuit filings and M&A-related litigation is now the lawsuit of choice for many plaintiffs’ securities attorneys.

 

As a result of legislative changes and U.S. Supreme Court case law developments, “dispossessed plaintiffs’ lawyers” (as one academic recently put it) have been forced to seek an alterative business model. And M&A litigation appears to be an attractive business model for many plaintiffs’ lawyers. Corporate defendants, eager to complete the underlying business transaction, often are keen to settle these cases quickly. Settlements often include a not insignificant provision for plaintiffs’ fees.

 

The attractions of this business model is drawing competition, as increasingly each merger transaction is attracting  multiple separate lawsuits, often filed in differing jurisdictions. The jockeying between the plaintiffs’ lawyers in the competing cases in multiple jurisdictions has led to procedural complications and rapidly increasing costs of defense. Delaware, the traditional forum for this type of litigation, arguably now faced with “market share” competition, is according to some under pressure to show that it is not inhospitable to these kinds of lawsuits, and even to support plaintiffs’ fee awards (about which see more below).

 

Not only are both defense expenses and plaintiffs’ fee awards in merger objection suits mounting, but it is increasingly common for M&A-related cases to result in cash settlements on an order of magnitude often seen only in traditional securities class action lawsuits. Thus, the Kinder Morgan case, settled in August 2010 for $200 million (refer here); the Del Monte case settled in September 2011 for $89 million (refer here); the May 2010 ACS settlement was $69 million (refer here); and the 2011 Intermix Media settlement was $45 million (refer here).

 

The new M&A litigation model represents both a high frequency and a high severity risk. The severity risk is particularly acute given the exacerbating effects of escalating defense expenses and rising plaintiffs’ attorneys’ fees. The bottom line is that it is no longer sufficient to focus just on federal securities class action litigation. M&A related litigation is an increasingly important part of the overall mix of corporate and securities litigation. For anyone whose tasks include understanding the risks and exposures associated with corporate and securities litigation, this is an important development with significant implications. 

 

2. Chinese Take-Out: U.S.-Listed Chinese Companies Hit With Class Action Securities Litigation: Every year there seems to be one group or sector of companies that draws the unwanted attention of plaintiffs’ securities attorneys. During 2011, the hot sector was U.S.-listed Chinese companies. There were 39 different U.S.-listed Chinese companies hit with securities class action lawsuits during 2011, representing nearly one-fifth of all securities class action lawsuit filings during the year. Since January 1, 2010, there have been securities class action lawsuits filed against 49 different Chinese companies.

 

This surge of litigation involving Chinese companies has arisen out of accounting scandals, many of which were first revealed by online analysis, many of whom have short positions in the companies they are attacking. The Chinese companies have attempted to deflect the assertions by charging that the attacks are merely rumors started by interested parties with a financial incentive to drive down the companies’ shares prices. Fair or not, the online reports seem to be leading directly to shareholder litigation, as in many cases the shareholder plaintiffs’ are simply quoting the online analysts’ reports in their complaints.

 

Obviously not all of these cases are meritorious and indeed some of them have been dismissed (refer for example here). On the other hand, other cases have survived the initial dismissal motions (refer for example here). Even in those cases in which the plaintiffs’ claims survive the initial pleading threshold, their claims stiff face substantial challenges, not the least of which are problems involved with effecting service of process and in conducting discovery in China, as well as deriving from the geographic distances and language issues involved. (Refer here).

 

Eventually the plaintiffs’ lawyers will simply run out of Chinese companies to sue, but for now the phenomenon shows no sign of letting up. During the second half of 2011, there were a total of 13 Chinese companies sued in securities class action lawsuits in the U.S., including two in December alone.

 

The recent litigation against the U.S.-listed Chinese companies is a reminder of circumstance-specific events that can drive securities class action lawsuit filings. Countless things determine litigation activity levels, many of which cannot be captured or predicted in historical filing data. Simply put, the numbers vary over time, because, for example, contagion events and industry epidemics happen.

 

3. Massive Settlements Emerge as the Subprime and Credit-Crisis Litigation Wave Slowly Plays Out: The subprime and credit crisis-related litigation wave is about to enter its sixth year. Though there were additional credit crisis-related lawsuit filings during 2011, the arrival of new cases seems to have largely come to an end. However, there is still a massive backlog of cases filed over the last five years that is yet to be resolved. During 2011, a number of these cases were settled, and in some cases the settlements were massive.

 

The 2011 settlements include the largest so far in subprime and credit crisis-related cases, the $627 million Wachovia bondholders settlement, about which refer here. Other settlements include the following: Merrill Lynch Mortgage Backed Securities, $315 million (refer here); Lehman Brothers offering underwriters settlement, $417 million (refer here); Washington Mutual, $208.5 million (refer here); Wells Fargo Mortgage Backed Securities, $125 million (refer here); National City, $168 Million (refer here); Colonial Bank, $10.5 million (refer here); and Lehman Brothers executives, $90 million (refer here) and E*Trade, $79 million (refer here).

 

If you include the Lehman Brothers’ offering underwriters’ settlement, the various subprime and credit crisis lawsuit settlements total about $4.432 billion. The average settlement so far is about $110 million, although that figure is clearly driven upward by the largest settlements. If the Countrywide, Wachovia bondholders and Lehman offering underwriters’ settlements are removed from the equation, the average settlement drops to about $74.7 million.

 

As impressive as these settlement numbers are, there are still many more cases pending. Of course, a certain number of the pending cases will ultimately be dismissed. But many will not, and eventually those remaining cases will be settled. Although it is impossible to conjecture how large the total tab for all these cases ultimately will be, the implication from the cases that have settled is that the total amount will be massive. 

 

The possibilities here may have significant implications for D&O insurers. Of course, not all of these amounts will be covered by D&O insurance. But a significant chunk will be. Indeed, a number of the recent settlements will be funded entirely or almost entirely by D&O insurance, including the D&O portion of the WaMu settlement, the Colonial Bank settlement, the E*Trade settlement and the Lehman Brothers executives’ settlement. Interestingly, the Lehman executives’ settlement will come close to exhausting what is left of Lehman’s $250 million insurance tower.

 

In other words, the D&O insurers have had some very large bills to pay. Signs are that there will be further amounts due in the months ahead.

 

4. Costs Incurred in Connection with Informal SEC Investigation Held Not Covered: One of the perennial D&O insurance coverage questions is whether or not a D&O insurance policy provide coverage for defense expenses and other costs incurred in connection with an informal SEC investigation. In October 2011, in a case that was closely watched in the D&O insurance industry, the Eleventh Circuit  issued a per curiam opinion affirming a lower court holding that costs Office Depot had incurred in connection with an informal SEC investigation and investigating an internal whistleblower complaint were not covered under its D&O insurance policies.

 

The sheer dollar value of the costs for which Office Depot had sought coverage underscores the extent of the problems involved. Office Depot had incurred tens of millions of dollars in expense before the SEC investigation became formal. Under the circumstances presented and based on the policy language at issue, the district court held and the Eleventh Circuit affirmed that Office Depot did not have insurance coverage for these costs. The holding was a reflection of the specific policy language at issue, but D&O insurers undoubtedly will try to rely on the holding in other circumstances in which coverage is sought for costs incurred in connection with informal SEC investigations.

 

Meanwhile, the insurance marketplace has evolved in recognition of policyholders’ interest in having insurance coverage for the costs of informal SEC investigations. Recently, some carriers have been willing to provide coverage for costs individuals incur in connection with informal SEC investigations. In addition, at least one carrier now offers a separate insurance product that provides coverage for costs that the entity itself incurs in connection with an informal SEC investigation. Although this entity protection for informal SEC investigative costs is subject to a large self-insured retention and to coinsurance, the fact remains that if such a policy had been available to Office Depot and if Office Depot had had such a policy in place, at least a significant part of Office Depot’s costs of responding to the informal SEC investigation might have been covered.

 

Policyholder advocates undoubtedly will take the position that the Eleventh Circuit’s opinion in the Office Depot case does not represent the final word on the question of D&O insurance coverage for costs incurred in connection with informal SEC investigation. In making these arguments, the policyholder advocates undoubtedly will seek to rely on the Second Circuit’s July 2011 opinion in the MBIA case, in which the court held that costs incurred in voluntarily responding to a governmental investigation are covered. (The MBIA case is itself also a reflection of the policy language involved and circumstances presented, including in particular the fact that most of the costs at issue were incurred after the SEC had issued a formal investigative order, by contrast to the Office Depot case, where most of the costs were incurred before the investigation was formalized.)

 

These questions undoubtedly will continue to be disputed and even litigated. But it will be interesting to see how the marketplace continues to evolve as the industry continues to try to craft solutions to this recurring problem.

 

5. FDIC Litigation Against Failed Bank Directors and Officers Slowly Emerges: Since January 1, 2008, there have been 414 bank failures, including 92 in 2011 alone. Though the number of bank closures this past year represents a decline from the prior year’s total of 157, the likelihood is that there are further bank failures ahead in 2012, albeit at a reduced pace from recent years. (The January 3, 2012 Wall Street Journal comments that “failures will be a part of the landscape for many months, maybe years, as weak banks take a long time to recover or fail.”) But even if the number of new bank failures may finally be starting to decline, the FDIC’s pursuit of litigation against the directors and officers of failed banks may just be getting started.

 

During 2011, the FDIC stepped up its failed bank litigation activity. The FDIC filed 15 lawsuits against directors and officers of failed banks in 2011, bringing the total number of FDIC failed bank lawsuits to 17. Signs are that the number of FDIC lawsuits will continue to grow in the months ahead. According to the FDIC’s website, as of December 8, 2011, the FDIC has authorized suits in connection with 41 failed institutions against 373 individuals for D&O liability for damage claims of at least $7.6 billion. These figures representing the authorized lawsuits contrast starkly with number of lawsuits that the agency has actually filed: So far, the agency has filed only 17 lawsuits against 135 former directors and officers of 16 failed financial institutions. Given the discrepancy between the number of suits authorized and the number of suits filed, there clearly are many more suits in the pipeline, with even more lawsuits likely to be authorized in the months ahead.

 

As the FDIC’s failed bank lawsuits have begun to emerge, settlements of these cases are also slowly developing. The most noteworthy of the settlements so far is the well-publicized resolution of the FDIC’s lawsuit against three former WaMu officers. Although widely reported as having a value of $64.7 million, the cash value of the settlement was actually about $40 million, as discussed here. All but a very small portion of the cash component was paid for out of WaMu’s directors and officers’ insurance coverage. Although it is interesting that the individual defendants were called upon to contribute out of their own assets toward the settlement, the fact is that D&O insurance represented almost all of the cash component of the settlement.

 

The point here is that as the FDIC failed bank lawsuits accumulate in the coming months and as the filed cases move toward resolution, D&O insurers could be called upon to contribute amounts toward defense and resolution of these cases that in the aggregate could be massive.

 

6. Eurozone Crisis Includes Corporate Liability Exposures: The financial crisis gripping the European economic community has many dimensions. As governments wrestle with concerns about sovereign debt of Eurozone countries, as well as unemployment and unrest, companies exposed to European sovereign debt face perils of their own. As the fallout from the collapse of MF Global demonstrates, the hazards these companies face include, among many other concerns, liability exposures stemming from the companies’ investments in European sovereign debt.

 

Among the many disturbing features of MF Global’s demise is the speed of its collapse. And inevitably its collapse was immediately followed by an onslaught of securities class action lawsuit filings against the firm’s directors and officers. MF Global collapsed because of its exposure to European sovereign debt. The company is of course far from the only enterprise exposed to European debt. A host of other financial institutions and banks are also exposed and many more enterprises are exposed to the companies with European debt exposure. The possibility of sovereign debt rating downgrades or even debt write-offs looms over the firms carrying these assets on their balance sheets. 

 

Though the larger problems for the global financial marketplace clearly are of a much higher order, these issues also pose a challenge for D&O insurance underwriters. As noted above, there is not just the question of whether or not a company is exposed to European sovereign debt. There is also the far more difficult to discern question of whether or not a company is exposed to a company that is exposed to European sovereign debt. If the European difficulties were to evolve from a crisis to a disaster  – for example, though the withdrawal of one or more countries from the Euro – the aftereffects could be even more widespread. As MF Global’s rapid demise illustrates, these kinds of concerns are sufficient to quickly send a company into bankruptcy.

 

There is no way to know for sure, but I suspect strongly that as the New Year progresses, there will be a lot more to be said about European sovereign debt risk, at both the global and individual company levels.

 

7. Whistleblower Rules Go Into Effect, Whistleblower Lawsuits Emerge: The SEC issued its implementing regulations with respect to the Dodd-Frank whistleblower provisions in August 2011. In November 2011, the agency released its first report to Congress, as required by the Dodd-Frank Act, on whistleblower activities, as of the end of the 2011 fiscal year end on September 30, 2011.

 

Though the SEC’s report reflected only a seven week time period, it revealed a heightened level of whistleblower reporting. In just the first seven weeks, the program recorded 334 whistleblower reports, which implies an annualized level of nearly 2,500 reports. Interestingly, about 10 percent of all whistleblower reports during the period reflected in the study originated outside the United States. The SEC made no whistleblower bounty payments during the period reflected in the study, as permitted under the Dodd-Frank Act. It seems likely that as the agency makes bounty payments additional whistleblowers will be motivated to come forward.

 

With the implementation of provisions for potentially rich whistleblower bounties under the Dodd-Frank Act, there have been concerns that the incentives will not only lead to increased numbers of reports and increased enforcement activity, but that the regulatory action will in turn generate follow-on civil litigation.  As discussed here, a December 2011 securities class action lawsuit filed against Bank of New York Mellon give a glimpse of how heightened whistleblower activity could lead to increased follow-on civil litigation.

 

The lawsuit followed whistleblower reports that the company engaged in a scheme to fraudulently overcharge its customers for foreign currency exchange transactions. Although the whistleblower allegations first emerged in separate whistleblower lawsuits, the foreign currency exchange allegations are also the subject of whistleblower reports to the SEC. In addition to the securities class action lawsuit, the whistleblower allegations have also triggered multiple regulatory actions. The train of events that the BNY Mellon whistleblower allegations set in motion shows how the revelation of whistleblower allegations can lead not only to significant regulatory action but also to significant follow on civil litigation.

 

Given the substantial bounties for which the Dodd-Frank Act provides, it seems likely there will be increased numbers of reports to the SEC, which in turn could mean increased levels of enforcement activity. Along with all other concerns these possibilities present, there is also the concern that the increased number of reports and increased enforcement activity could, following the same sequence illustrated in connection with the BNY Mellon whistleblowers, lead to a surge in follow-on civil litigation. As we head into 2012, we will have to watch whether increased whistleblowing will lead to increased follow-on civil litigation, similar to the suit against BNY Mellon.

 

8. Aggrieved Overseas Investors Seek Litigation Alternatives Outside the United States: For many years, the United States was the forum of choice for aggrieved investors to seek redress, regardless of whether or not the investors purchased their shares in the United States. However, the U.S. Supreme Court’s June 2010 decision in Morrison v. National Australia Bank abruptly and unexpectedly eliminated access to U.S. courts for investors who purchased their shares outside the U.S. As a result, these investors increasingly are seeking alternative means to pursue their claims. Though we are still in the earliest days following the Morrison decision, there seem to be significant indications that aggrieved investors are developing a new playbook that includes resort to non-U.S. courts.

 

Investors’ pursuit of claims outside the United States was not long in coming after the Morrison decision and as its implications began to emerge in the lower U.S. courts. For example, in January 2011, after investors’ claims in U.S. court against Fortis were dismissed based on the Morrison decision, investors filed an action in Dutch court seeking remedies under Dutch law, but raising the same allegations that previously had been asserted in U.S. courts. Similarly, in December 2011, hedge funds and other investors whose action against Porsche had been dismissed from U.S. courts based on Morrison filed an action raising the same allegations against the company and its management in a German court.

 

Developments in other jurisdictions also reflect investors’ efforts to develop alternative remedies in the absence of access to U.S. courts. Among other things, at least two class actions pending in Canadian courts have not only survived dismissal motions but have had global classes certified. As discussed here, investors have also shown a willingness to pursue claims in a variety of other countries, including, for example, Germany and Australia. Recent statutory amendments in other countries (including, in particular, Mexico) may lead to investors in those countries to seek to pursue claims there.

 

Increased litigation and regulatory exposure outside the United States has a variety of implications, not the least of which concerns D&O insurance. As companies and their directors and officers face increased exposures on a global basis, D&O insurance policies will be called upon to respond in new and unusual situations. These developments in turn will require policies that are well adapted to the changing circumstances.

 

9. Judge Rakoff Rejects Settlement of SEC Enforcement Action Against Citigroup: Southern District of New York Judge Jed Rakoff’s November 2011 rejection of the $285 million settlement of the SEC’s enforcement action against Citigroup was not the first occasion on which Rakoff rejected a proposed SEC settlement. But this latest rejection has caused quite a stir, and not only because of the sharp rhetoric he used in rejecting the settlement (among other things, he derided the settlement because it “shortchanged” investors.) The most significant aspect of Rakoff’s rebuff is his refusal to accept a settlement in which Citigroup neither admitted nor denied the SEC’s allegations.

 

The SEC, perhaps stung by the Rakoff’s sharp words, and even more concerned about the possibility that it might be constrained from the entry into future no admit/no deny settlements, has appealed Rakoff’s ruling to the Second Circuit.  The SEC is right to be concerned about the implications of Judge Rakoff’s ruling. Following Judge Rakoff’s ruling, at least one other court has questioned a proposed SEC settlement that contained the “neither admit nor deny formulation.”

 

The problem for the SEC is that if proposed settlements cannot be approved unless the target defendants admit to wrongdoing, it may become significantly more difficult to settle cases and the SEC will be forced to take more enforcement actions to trial. This would not only put an enormous strain on the agency’s resources, but it could result in an overall reduction in the agency’s enforcement reach as it is forced to concentrate both more time and means on fewer enforcement actions.

 

The inability to enter into a no admit/no deny settlement presents a highly unattractive picture for target defendants as well. If fewer enforcement actions settle and more enforcement actions are forced to trial, the costs of defending an SEC enforcement action could escalate substantially. Target defendants unable to avoid the risks and uncertainty of trial without admitting wrongdoing will have to consider the possible effects of any admission on separate private civil actions. Any admissions in the enforcement actions could undermine their defenses in the separate civil actions. Moreover, depending on what is admitted, the admissions could have the further also undermine the target defendant’s insurance coverage by triggering a conduct exclusion on the defendant’s insurance policy.  

 

For these and a host of other reasons, the SEC’s appeal of Judge Rakoff’s ruling to the Second Circuit will be very closely watched. Crucially, however, the Second Circuit has not yet agreed whether or not it will actually hear the appeal of Judge Rakoff’s ruling. In additiona, there is always the possibility that Citigroup and the SEC will reach an agreement that Judge Rakoff finds acceptable (a footnote in his opinion rejecting the initial settlement does lay out a schematic for a settlement that would be acceptable to him, as I discuss here). Depending on how it all finally goes down, this case has the potential to be one of the top stories of 2012, as well.

 

10. A Big Fee Award in Delaware Gets Everybody’s Attention: Sometimes in litigation, a case that results in a big number is interesting in and of itself. And on that score, Delaware Chancellor Leo Strine’s October 2011 post-trial damages award of $1.263 billion in a lawsuit arising out of Grupo Mexico’s 2005 sale of Minerva Mexico to Southern Peru Copper Corporation certainly qualifies as interesting. (The later addition of pre-judgment and post-judgment interest increased the amount of the award to $2 billion). But what really has drawn attention to the case is Strine’s award to the plaintiffs’ of fees amounting to 15% of the damages and interest – that is, $300 million. A December 28, 2011 Wall Street Journal article entitled “Christmas Comes Early for These Lawyers” (here) describes the award.

 

As noted in a December 28, 2011 WSJ.com Law Blog post (here), the $300 million fee award may be the largest fee award ever in a shareholders’ derivative suit. Indeed it appears to be one of the largest fee awards in any corporate or securities case, approaching in order of magnitude the awards in the massive Enron and World Com cases (where the fees awarded were $688 million and $336 million, respectively).

 

Grupo Mexico undoubtedly will appeal both the damages award and the fee award. Whether or not the $300 million award ultimately withstands scrutiny, there are reasons to be concerned about the award. As noted above with respect to M&A litigation, Delaware’s courts are facing competition and appear to have been losing “market share” for corporate litigation. At least some interpreters have concluded, as reported in the Journal article linked above, that the plaintiffs’ fee award is a not-so-subtle signal to plaintiffs’ lawyers that Delaware’s courts are “open for business.” Other interpreters suggested that the fee award represents a “message to the plaintiffs’ bar.”

 

It is an obvious concern if Delaware’s judges feel obliged — in order remain competitive in the jurisdictional competition and to try to preserve declining corporate litigation market share — to prove that plaintiffs’ lawyers will be rewarded for resorting to the state’s courts.

 

Bloggers of the World, Unite!: Everyone here is pretty much reconciled to the fact that writing a blog is not exactly accorded equal dignity with, say, writing for The New Yorker. So we were all very gratified by the article in December 31, 2011 issue of The Economist entitled "Marginal Revolutionaries" (here), in whch the magazine reports that "the financial crisis and the blogosphere have opened up mainstream economics to new attack." Among other things, the article cites "the power of blogging as a way of getting fringe ideas noticed." The article recounts the experiences of the "invisible college of bloggers" whose revolutionary economic analyses have moved from the fringe to become part of the central economic dialog of our times.

 

In the immortal words of  the theme song of revolutionaries everywhere , "Allons enfants de la patrie, Le Jour de gloire est arrivé!" 

 

Perspective: Those worried about the troublesome events of the day may want to spend a few minutes contemplating "The Hisory of the Earth as a Clock" (here). In the grand scheme of things, the current crises are a mere passing cloud. (Source: UW-Geoscience).

 

 

Surging levels of M&A-related litigation and a wave of lawsuits involving U.S.-listed Chinese companies drove federal securities class action lawsuit filings during 2011 to the highest levels since 2008. However, due to the growing wave of M&A-related litigation, much of which is filed in the state courts, the federal securities lawsuit filing statistics, while interesting, represent only a part of the overall corporate and securities litigation story. State court litigation, particularly state court M&A-related litigation, represents an increasingly important part of the picture.

 

According to my count (about which see more below), there were 218 securities class action lawsuit filings in 2011, well above the 176 filed in 2010, and also above the 1997-2009 average number of filings of 195, but below the 2008 credit crisis fueled total of 223. The 2011 filings were fairly evenly balanced throughout the year, with 113 in the year’s first half and 105 in the year’s second half.

 

The single largest factor driving the increase in 2011 filings were merger-related lawsuits. Sixty-one of the 218 filings during 2011 (or about 28%) were merger-related. By way of comparison, the M&A-related lawsuits represented slightly less than 20% of all 2010 filings, While these federal court filings represented an important part of the year’s overall federal securities class action lawsuit filings, these federal court filings represented only a fraction of all M&A-related litigation, most of which was filed in state court. Taking all of the cases, state and federal, into account, the number of M&A related lawsuits now greatly exceeds the number of federal securities class action lawsuits that are not merger-related. As discussed further below, the counts and relative comparisons can get tricky.

 

A second significant factor driving the 2011 securities class action lawsuit filings is the number of filings against non-U.S. companies, particularly U.S.-listed Chinese companies. 55 (or about 25%) of the 2011 federal securities filings involved non-U.S. companies.  The targeted non-U.S. companies are domiciled in 12 different countries. 39 of these 55 foreign companies are U.S.-listed Chinese companies (or U.S. listed companies that have their executive offices or principal places of operation in China). These 39 alone represent about 18% of all 2011 filings. Though the 39 lawsuit filings involving Chinese companies were heavily weighted to the first part of the year, there were still 13 in the year’s second half (which is more the 10 total filed against U.S.-listed Chinese companies during all of 2010) — including two in December.

 

At one level, the fact that a quarter of all 2011 securities class action lawsuit filings involved non-U.S. companies is surprising, given that it seemed probable that the U.S. Supreme Court’s decision in the Morrison v. National Australia Bank case would result in a reduction in litigation involving non-U.S. But the 2011 actions involving non-U.S. companies either (like the cases involving the Chinese companies) involved firms with shares or ADRs listed on U.S. exchanges – and that therefore come within the requirements of Morrison – or were filed only on behalf of shareholders who purchased their shares in the U.S. The November 2011 action on behalf of the very few Olympus Corporation shareholders who purchased their Olympus ADRs over the counter in the U.S. is a good example of this latter kind of case. The Olympus case, which involves only a very small fraction of the company’s shareholders, show that Morrison is still having a very significant impact on filings, notwithstanding the number of filings involving non-U.S. companies.

 

The merger cases and the cases involving U.S.-listed Chinese companies together represented 100 of the 218 securities class action lawsuit filings during 2011, or nearly 46% of all filings. Clearly these two lawsuit phenomena were significant factors in driving 2011 filings, and more than account for all of the increase in 2011 filings compared to filing levels in 2010 and 2009.

 

The companies targeted in the 2011 securities class action lawsuit filings were very diverse, representing 114 Standard Industrial Classification (SIC) code categories. Unlike recent years in which filings against companies in the financial services industries predominated, filings against companies in the 6000 SIC code category (Finance, Insurance and Real Estate) represented only about 12% of all filings, compared to 2010, when filings against companies in that group represented about 20% of all filings, and 2009, when suits against financial companies accounted for over half of all filings.

 

This decline in the percentage of cases involving financial companies is largely due to the winding down of the subprime and credit crisis-related litigation wave. But while the wave is fading, it is not yet completely gone. There were still four new subprime relates securities class action lawsuit filings in 2011. However, none of these were filed during the year’s second half, which suggests that we could be very close to the end of the litigation wave, at least in terms of new filings.

 

There really was no SIC code classification that predominated in the 2011 filings. However, as always seems to be the case, there were a large number of cases involving companies in the life sciences sector. The SIC code classification with the single largest number of filings was SIC Code classification 2834 (Pharmaceutical Preparations), in which there were 11 lawsuits in 2011. Overall there were 13 lawsuits in SIC Code Group 283 (Drugs). There were another 5 companies sued in SIC Code classifications 3841 (Surgical and Medical Instruments) and 3845 (Electromedical and Electrotheropeutical Apparatus), meaning that overall there were 18 new lawsuits filed against life sciences companies, or about 8% of all 2011 filings. These 2011 figures were down from filings against companies in the SIC Code categories in 2010, when there were 27 lawsuits against companies in these sectors, representing about 15% of all filings.

 

Another sector that had a significant number of filings was SIC Code Group 737 (Computer Programming, Data Processing and Other Computer-Related Services). There were a total of 21 lawsuits involving companies in this group. There were also another 11 lawsuits filed against companies in SIC Code Group 367 (Electrical Components and Processors), including nine in SIC Code classification 3674 (Semiconductors) alone. Together, these various technology categories accounted for 32 of all 2011 filings, or about 15%. 

 

The 2011 securities class action lawsuits were filed in 47 different federal district courts, although a few courts accounted for most of the filings. 48 of the filings, or about 22%, were in the Southern District of New York (both the merger filings and the lawsuits against Chinese companies helped to swell the number of filings in this judicial district). The Central District of California accounted for 33 of the filings (again swollen by filings involving Chinese companies), and the Northern District of California accounted for 16, largely as a result of the number of lawsuits involving technology companies. These three districts together accounted for 97 of the 2011 filings, or nearly 45% of the total.

 

Discussion

My tally of the 2011 securities class action lawsuit filings will differ from other published counts of the 2011 lawsuits. My count is larger than the tally of the Stanford Law School Securities Class Action Lawsuit Clearinghouse, because I included all federal court merger objection lawsuits while the Stanford web site chose to omit some. My count is smaller than that of NERA Economic Consulting (about which refer here) for a number of reasons, primarily because I count multiple lawsuits involving a corporate defendant only once, whereas NERA will count multiple lawsuits in multiple jurisdictions involving the same company multiple times, unless the separate lawsuits are consolidated in a single case in a single jurisdiction.

 

The differences in counting the M&A lawsuits underscores a recurring general difficulty with trying to count federal securities class action lawsuits. There is an inevitable definitional issue, as deciding whether or not to “count” individual cases presents recurring questions abut exactly what it is that you are trying to count. The M&A related cases present a particularly challenging category of cases, because increasingly a single merger transaction will give rise to multiple lawsuits in multiple different jurisdictions, sometimes based on a differing legal theories. Because there cases are sometimes filed in different states’ courts, or in both federal and state courts, there are recurring and vexing issues involved with trying to count these cases, all of which is compounded by the fact that it can be very difficult to accurately track the state court filings.

 

Though I have elected to include all federal court M&A-related lawsuit filings in my tally, these filings represent only a fraction of all M&A-related lawsuit filings in 2011. The vast majority of 2011 corporate and securities lawsuits – particularly the merger objection cases – were filed in state court. The fact that my 2011 count, like most of the published securities class action lawsuit filing counts, is based on federal filings necessarily means that it omits numerical recognition and analysis of the state court filings. At least from a frequency standpoint, the exclusively federal court focus could lead to a distorted impression of corporate and securities litigation activity levels.

 

At the same time, my inclusion of the federal merger objection lawsuits could result in a distortion the other way as well. There is a very legitimate argument that these cases should not be included, or at least many of them should not be included, in a tally of federal securities class action lawsuit filings. Some of them may not allege a breach of the U.S. securities laws. For that reason, the Stanford website omits some of these cases. I decided to go ahead and include all of them and not just some of them, first, because it can become extraordinarily difficult to make selections at the individual case level. The categorical distinctions are not always apparent. But the larger reason I decided to include these is that I felt that without including these cases, the overall levels of federal court litigation might appear understated.

 

There is another significant way in which the federal court litigation may be understated, at least as a matter of analysis. That is, most analysis of federal securities lawsuit filings levels focus exclusively on the absolute numbers of filings. Though the absolute number of annual filings has fluctuated over the years, they have generally held pretty steady, even allowing for the occasional annual blip up or down. But a simple focus on the absolute numbers of filings levels does not consider the relative filing levels – that is, the number of filings relative to the number of public companies.

 

The fact is that there are significantly fewer public companies than there were only a few years ago, due to bankruptcies and mergers, along with declining numbers of IPOs. As I discussed here, by one estimate, there are 40% fewer public companies than there were in 1997, yet the annual number of new securities class action lawsuits is more or less consistent with that earlier time. All of which supports the argument that because absolute filing numbers have held steady while the number of publicly traded companies has declined, overall filing levels have actually increased over time. In any event, regardless of what you make of this argument, I think that consideration of relative filing levels is a part of the analysis that is routinely omitted from the consideration of the changes in annual litigation activity.

 

Looking ahead to 2012, it seems probable that the wave of new lawsuits involving Chinese companies will wind down, since sooner or later the plaintiffs’ lawyers will simply run out of companies to sue. However, there seems to be no reason to expect that the surge of M&A-related litigation will not continue to grow. The procedural and substantive barriers to traditional securities litigation and the prospects for quick settlements and attorneys’ fee recoveries in the M&A suits have encouraged many of the smaller plaintiffs’ securities firms to adapt M&A litigation as their new business approach. The vexing problems this type of litigation presents will increasingly challenging in the New Year. My own view is that the growth in M&A litigation represents a secular rather than a merely cyclical change.

 

The bottom line is that with growing levels of M&A-related litigation and relatively greater frequencies of federal securities class action lawsuit filings, the likelihood that any particular public company will get hit with a serious corporate or securities lawsuit has never been greater (as I analyze in greater detail here).

 

In a prior post (here), I examined the mounting problems associated with the increasing levels of M&A-related litigation. A recent academic paper takes a closer look at these issues and concluded, among other things, that M&A-related lawsuit filings now outnumber federal securities class action lawsuit filings, and M&A-related litigation has “replaced traditional stock drop cases as the lawsuit of choice for plaintiffs’ securities lawyers.”

 

In her article entitled “Securities Class Action Lawsuits in State Court” (here), Lewis & Clark Law School Professor Jennifer Johnson examines a database of class actions filed in state court between 1996 and 2010. Her analysis shows that as a result of several Congressional enactments in recent years – particularly SLUSA and CAFA – the prevalence of many types of state court securities class action filings has declined. However, the number of state court class action lawsuit filings involving M&A transactions has been “skyrocketing” and now even outnumber federal securities class action lawsuit filings.

 

Indeed given that the database of state court filings on which Professor Johnson relied almost certainly understates the number of state court filings, it is probable that the number by which the state court M&A-filings exceeds the number of federal court filings is even greater than her analysis shows.

 

According to Professor Johnson, the growth of M&A-related litigation is a consequence of the various Congressional enactments intended to restrict traditional securities class action lawsuits to federal court. As legislative enactments like SLUSA and CAFA drove plaintiffs’ lawyers away from federal court, “dispossessed plaintiffs’ lawyers increasingly have turned to filing alternative class actions in state court” – particularly M&A-related class actions. As a result, M&A-related class action lawsuits “have replaced traditional stock drop cases as the lawsuit of choice for plaintiffs securities lawyers,” particularly because the cases are filed and resolved quickly, owing to the pressure on the defense attorneys’ to complete the underlying transaction.

 

While the increased numbers of M&A-related lawsuits has led to an increase in the numbers of filings in Delaware state court, “the relative percentage of Delaware cases compared to those in other jurisdictions has fallen.” Increasingly, plaintiffs’ lawyers are choosing to file cases outside the defendants’ state of incorporation. At the same time, while the growth in M&A-related litigation has primarily been a state-court phenomenon, there have also been growing numbers of federal court M&A related lawsuit filings as well.

 

The proliferation of M&A-related litigation outside of Delaware is in part due to the fact that increasingly any one M&A event is likely to “induce multiple filings.” During 2010, for example, each M&A event spurred an average of 1.8 filings, but this statistic is “slightly misleading” as larger entities often faced suits in 4 or 5 different jurisdictions.

 

The reasons for increase in M&A-related filings outside of Delaware may include concerns among plaintiffs’ attorneys that Delaware’s courts are “increasingly diligent in policing the conduct of lead counsel and the award of attorneys’ fees.” There may also be a perception that Delaware is a “manager-friendly state” and that “settlement values may be higher outside of Delaware state court.”

 

The growing levels of multi-jurisdiction litigation “makes it difficult for courts to manage cases, as there is no prescribed orderly procedure for consolidation as would exist in the federal courts.” There are also no mechanisms for coordination between states or between state and federal courts.  The phenomenon of multi-jurisdiction M&A litigation “wastes judicial resources,” leads to “obvious inefficiencies and increased costs” for defendants, and even leads to problems among plaintiffs’ counsel “as they jockey for position and ultimately for fees.”

 

Johnson observes that “effective coordination” between the courts could help ameliorate these difficulties. She also reviews various proposals that have been offered for corporations to amend their charters to include clauses specifying the forum for specifying intra-corporate disputes. But, she also speculates, “absent a major change,” the concerns associated with the proliferation of multi-jurisdiction M&A related litigation “is likely to come to the attention of Congress.”

 

Johnson suggests that Congress might attempt to address these concerns through an outright repeal of the so-called “Delaware Carve-Out” from SLUSA, which preserves state court jurisdiction for state law claims involving shareholder communications involving voting rights, such as in M&A transactions, forcing the class actions into federal court. Alternatively, Congress might revisit SLUSA and restrict the carve-out to preserve state court jurisdiction for the courts of an entity’s state of jurisdiction (which, Johnson speculates, would have the effect of making Delaware the sole forum for the majority of cases).

 

Discussion

Johnson’s article further substantiates the alarms being sounded in connection with the exploding levels of M&A-related litigation. The growth of M&A-related litigation is a vexing and costly problem, and her article helps to substantiate the growth and seriousness of the problem. However, her speculation about possible solutions may be optimistic. The inability of the current Congress to confront even matters of the greatest urgency is hardly reassuring about its ability to deal with issues of the type involved here.

 

But even Congress were to address these issues, I am skeptical that Congress would outright eliminate the Delaware Carve Out from SLUSA and make all corporate litigation into federal litigation. It is relatively likelier that Congress might be willing to revise the carve-out to restrict the preserved jurisdiction to the court of the state of an entity’s incorporation, but even there I have my doubts that Congress would be willing to act in a way that would so clearly favor the courts of a single jurisdiction.

 

Even if we assume for the sake of discussion that Congress will eventually be able to address these issues, that action could well be a long time coming. In the meantime, courts and litigants face a growing and costly problem. Courts and litigants alike will have to continue to grapple with these problems. Absent a congressional directive, informal cooperation between and among the courts and parties involved will be the only practicable solution available – a solution that admittedly could be frustrated in any specific case by a recalcitrant party or court.

 

Setting aside the questions of what to do about it, it is important simply to recognize that the problems associated with the growing levels of M&A-related litigation activity exist. As Johnson’s article documents, corporate and securities litigation overall is changing. It is no longer sufficient to focus just on federal securities class action litigation. M&A related litigation is an increasingly important part of the overall mix of corporate and securities litigation. For anyone whose tasks include understanding the risks and exposures associated with corporate and securities litigation, this is an important development with significant implications.  

 

Special thanks to a loyal reader for forwarding a copy of this article.

 

A legislative proposal to create a single federal Canadian securities regulator is unconstitutional, the country’s highest court has ruled. In a December 22, 2011 opinion (here), the Supreme Court of Canada ruled unanimously in an advisory opinion that the Act to create a single, unified securities regulator “as presently drafted” is not a valid exercise of the federal power to regulate trade and commerce. However, the Court expressly left the door open to a unified approach to securities regulation based on federal/provincial cooperation.

 

In 2010, following decades of review and study, the Canadian federal government prepared a draft act implementing proposals to create a single federal Canadian securities regulator. The Act itself contains a basic securities regulation framework, including registration requirements for securities dealers, prospectus filing requirements, disclosure requirements, specific duties for market participants, a framework for the regulation of derivatives, civil remedies and regulatory and criminal penalties pertaining to securities. Interestingly, the Act does not, according to the Supreme Court, “seek to impose a unified system of securities regulation on the whole of Canada.” Instead, “it permits provinces to opt in, if and when they choose to do so.”

 

On May 26, 2010, the Governor General in Council referred the draft Act to the Supreme Court for an advisory opinion on its validity under the Constitution Act of 1867. Canada and the provincial government of Ontario argued that “securities markets have undergone significant transformations in recent decades,” including changes that give rise to “systemic risks and other concerns that can only be dealt with on the national level.”

 

However, Alberta, Quebec, Manitoba, New Brunswick and other provinces opposed the Act, arguing that the scheme that the Act sets up falls under the provincial power over property and civil rights. The did not dispute that the financial markets have changed, but they argued that the Act goes beyond the regulation of a specific industry and extends to “all aspects of public protection and professional competences” – matters that, the provinces argued, remain “essentially provincial concerns.”

 

British Columbia and Saskatchewan also opposed the Act, but adopted what the Supreme Court called “a more nuanced approach,” contending that the goals the Act seeks to accomplish are “best achieved through an exercise of federal-provincial cooperation, similar to the cooperation” that has been adopted in other aspects of commercial activity.

 

In its December 22 opinion, the Supreme Court concluded on the basis of existing case law standards that the Act “cannot be classified as falling within the general trade and commerce power” of the Constitutional Act. The Act, the Court concluded, “overreaches genuine national concerns.” Though some characteristics of the securities marketplace “may in principle, support federal intervention that is qualitatively different from what the provinces can do,” these characteristics “do not justify a wholesale takeover of the regulation of the securities industry.” The “field of activity” that the Act “would sweep into the federal sphere simply cannot be described as a matter that is truly national in importance.” The basic nature of securities regulation “remains primarily focused on local concerns of protecting investors and ensuring fairness of the markets through regulation of the participants.”  

 

The Court stressed that in its ruling, it was not expressing an opinion on what would be the optimal form of securities regulation; it was merely addressing the question of whether the proposed Act represents an appropriate exercise of trade and commerce.

 

The Court went on to observe that while the Act is outside of Parliament’s general trade and commerce power, “a cooperative approach that permits a scheme that recognizes the essentially provincial nature of securities regulation while allowing Parliament to deal with genuinely national concerns remains available.” The “animating force’ of a “scheme” is “cooperation,” as “the federalism principle upon which Canada’s constitutional framework rests demands nothing less.”

 

As a mere south of the border observer, I necessarily must leave any analysis of the Court’s constitutional reasoning to those better informed about Canadian constitutional law. However, based solely on my acquaintance with the securities marketplace, it is difficult for me to see how the matters that Act would regulate are primarily a matter of local concern. There would certainly seem to be compelling reason to conclude that the types of systemic risk we have so recently witnessed warrant a unified national system of regulation. Of course, those observations are based on a policy bias, not on the jurisdictional framework that Canada’s federal system requires.

 

All of that said, the Court’s opinion did not close the door conclusively on some form of federal regulation of securities. The Court’s suggestion that a cooperative federal/provincial system might pass constitutional muster arguably shows the way for supporters of federal securities regulation to move forward. The challenge will be coming up with an approach that appropriately balances provincial concerns that at the same time addresses the concerns that warrant a unified national approach.

 

A December 22, 2011 Bloomberg BusinessWeek article discussing the decision can be found here. A Toronto Star article quoting remarks about the decision from a variety of Canadian commentators can be found here.

 

Special thanks to a loyal reader for forwarding a copy of the Court’s opinion.

 

Insuring Against Post-Deal Concerns: A recurring business concern is the possibility of the erosion of value following a merger transaction. A variety of insurance tools have arisen to address these concerns, including Representations and Warranties Insurance, Tax Indemnity Insurance and Contingent Liability Insurance. A recent article from the Dechert law firm entitled “Transaction Insurance: A Strategic Tool for M&A” (here) is designed to acquaint private equity professionals with these tools. The article, though brief, provides a good introduction to these insurance tools and to their usefulness.

 

E*Trade Financial Corporation has reached an agreement in principle to settle the subprime-related securities class action lawsuit pending against the company and certain of its directors and officers, the company reported in its December 21, 2011 filing on Form 8-K. The agreement calls for the company and its D&O insurance carriers to pay a total of $79 million, of which the company’s portion is approximately $10.75 million. The agreement is subject to court approval.

 

As reflected in greater detail here, the plaintiffs first filed their securities actions against E*Trade in October 2007, alleging that the company had failed to disclose deterioration in its mortgage and home equity loan portfolio. The defendants moved to dismiss, arguing among other things that the company’s losses were the result of a "worldwide economic catastrophe" and the plaintiffs’ claims were nothing more than "fraud by hindsight."

 

In a May 10, 2010 order (here), Southern District of New York Judge Robert Sweet denied the defendants’ motion to dismiss. Judge Sweet rejected the "global meltdown" argument, saying that "because the issue in this action is what the Defendants knew and when they knew it, a securities violation has been adequately alleged." 


With the announcement of the settlement to which the D&O insurers will be contributing about $68.25 million, the E*Trade case becomes the late subrime-related securities class action lawsuit to be settled largely with D&O insurance proceeds. For example, the $90 million Lehman Brothers directors and officers settlement (about which refer here), the $10.5 million Colonial Bank settlement (refer here), and $105 million of the $208.5 million Washington Mutual securities class action lawsuit settlement (refer here).

 

These and many other examples suggest that the subprime and credit crisis-related litigation wave have produced very substantial aggregate losses for the D&O insurance industry, with many more cases yet to be resolved. Even though the litigation wave is about to enter its sixth year, the losses are still accumulating and will do so for some time to come.

 

I have in any event added the E*Trade settlement to my running tally of subprime and credit crisis-related case resolutions, which can be accessed here.

 

‘Tis the Season: In light of the yuletide season that is now upon us, The D&O Diary will be taking a short holiday break for the next few days. The D&O Diary’s normal publication schedule will resume on January 3. To put everyone in the holiday spirit, here is a little Christmas cheer, flash mob style (watch for the dancing security guard). Best wishes for a happy and healthy holiday season to all.  

 

A long-standing question under New York law is whether the state’s Martin Act preempts private claimants’ efforts to bring non-fraud common law claims in the securities context. A well-developed body of case law has generally held that it does, although recently some judges questioned this conclusion.

 

In a December 20, 2011 opinion (here), the New York’s highest court held that the Martin Act does not preclude private claimants from bringing common law causes of action. As discussed below, this ruling not only clarifies a long-standing question but also has important implications. It could represent a big win for securities plaintiffs.

 

Background: The Martin Act

The Martin Act has been a potent weapon in the New York Attorney General’s toolkit. The Act prohibits fraudulent securities practices, but it does not require the NYAG to plead or prove scienter. The Act does not, however, provide for a private right of action and New York’s courts have declined to imply one. Claimants unable to pursue private rights of action under the Martin Act have sought to plead alternative non-statutory liability theories. These efforts have run afoul of case law suggesting that the Martin Act preempts these alternative theories as well.

 

A 1987 New York Court of Appeals decision, CPC International, Inc. v. McKesson Corp., has been interpreted by most later courts as having held that the Martin Act precludes not only private actions brought under the Act itself but also alternative common law claims. This view of the McKesson opinion has been, until recently, the generally prevailing view in the Southern District of New York. As a result, investors asserting claims of common law negligence and breach of fiduciary duty have generally had their claims dismissed. However, more recently, some courts and commentators have questioned whether McKesson definitively answered the question, and more to the point, whether the Martin Act does preclude common law claims. A split in decisions has been emerging in the trial courts.

 

The Assured Guaranty Case

J.P. Morgan Investment Management managed the investment portfolio of Orkney Re II PLC, whose obligations Assured Guaranty guaranteed. In its complaint, Assured Guaranty, as an express third-party beneficiary of J.P. Morgan’s investment management agreement with Orkney, alleged that J.P. Morgan invested Orkney’s assets in risky subprime mortgage-backed securities, as a result of which Orkney suffered financial losses that triggered Assured Guaranty’s payment obligations.

 

J.P Morgan moved to dismiss Assured Guaranty’s complaint, arguing that the Martin Act precluded Assured Guaranty’s claims for breach of fiduciary duty and gross negligence. The trial court granted J.P. Morgan’s motion to dismiss, but the intermediate appellate court reinstated Assured Guaranty’s claims. The intermediate appellate court granted J.P. Morgan leave to appeal to the New York Court of Appeals on certified questions.

 

The December 20 Opinion

In a December 20, 2011 opinion written by Judge Victoria Graffeo, the New York Court of Appeals held that the Martin Act does not preempt Assured Guaranty’s common law causes of action for breach of fiduciary duty and gross negligence.

 

The court state that the “plain text” of the Martin Act “does not expressly mention or otherwise contemplate the elimination of common law claims,” adding that J.P. Morgan “cannot point to anything in the legislative history” demonstrating a legislative “mandate to abolish preexisting common-law claims that private parties would otherwise posses.” Accordingly, the court agreed with Assured Guaranty that “the Martin Act does not preclude a private litigant from brining a non-fraud common law cause of action.”

 

The court distinguished claims “premised on a violation of the Martin Act” that “would not have existed absent the statute.” By contrast, however, “an injured investor may bring a common-law claim (for fraud or otherwise) that is not entirely dependent on the Martin Act for its viability.”

 

Discussion

If for no other reason than the fact that the decision of the New York Court of Appeals sets aside a generally accepted, conventional  view of New York law, the decision will have a significant impact. It also clears up what was becoming a vexing situation, where some judges were holding that the common law claims were not preempted, while most others were holding that they were.

 

The decision would seem to be an enormous boost for claimants seeking recoveries for alleged wrongdoing involving securities. In his December 20, 2011 Am Law Litigation Daily article about the decision (here), Nate Raymond quotes a leading plaintiffs’ attorney  who had filed an amicus brief in the case on behalf of a group of unions as saying that “this decision will tremendously enhance plaintiffs’ ability to vindicate their rights under New York law.” The December 20, 2011 New York Law Journal article about the decision says that "the decision is likely to have a wide impact as it resolves an issue that arises with some frequency, and shatters the long-held assumptions of lower state and federal courts." 

 

Martin Act preemption and the heightened pleading standards under the PSLRA together represented significant barriers for investors seeking to recover their losses. The heightened pleading standards often knocked out the federal securities law claims and the Martin Act preemption generally  knocked out the common law claims – indeed, in many instances, claimants often  omitted the common law claims altogether, in recognition of the Martin Act preemption.

 

Now, in light of the Court of Appeals ruling, most claimants will now likely include common law claims along with their federal securities claims – or simply assert common law claims alone, as Assured Guaranty did. Without the preemption argument, defendants will find it more difficult to knock out the common law claims at the initial pleading stage, particularly given that many of common law claims do not require the claimant to plead fraud. Without having to satisfy the heightened pleading requirement under the federal securities laws, aggrieved investors may be able to overcome the initial pleading hurdles, at least with respect to their common law claims.

 

This development may be most useful for claimants proceeding individually. In light of SLUSA as well as constraints in pleading common law claims on behalf of a class of claimants, the decision of the Court of Appeals may have less impact in class actions. At a minimum, the Court of Appeals decision seems likely to have a significant impact in the way that aggrieved investors plead their claims, and it potentially could have a significant impact on the numbers of cases, like that of Assured Guaranty, surviving the preliminary motions stage.  The Court of Appeals decision in this case could potentially represent a significant development for securities claimants proceeding under New York law.

 

About That Big Fee Award in Delaware: Judging by the number of comments I received, Chancellor Leo Strine Jr.’s $285 million plaintiffs’ fee award in the Southern Peru case, has quite a few people really stirred up. (Actually, as Nate Raymond noted in his December 19, 2011 Am Law Litigation Daily article, here, due to an increase in the amount of the underlying judgment, the value of the fee award is actually closer to $300 million.)

 

One particularly provocative question about the award is whether or not it has anything to do with the concerns some have raised about whether Delaware is losing corporate litigation “market share,” as plaintiffs’ attorneys’ increasingly resort to the courts of other jurisdictions they regard as more plaintiff friendly. In her December 20, 2011 article on Thomson Reuters News & Insight, Alison Frankel suggests that the fee award in the Southern Peru case was a “message…to the entire securities class action plaintiffs bar.” Frankel reports that at the hearing on the fee award, Strine made it clear that he wants certain kinds of cases to remain in Delaware, and that plaintiffs resort to Delaware courts with the kinds of cases in which they are taking risks will be well compensated for their efforts.

 

As I have previously noted, it is a serious concern if Delaware’s judges feel obliged — in order remain competitive in the jurisdictional competition and to try to preserve declining market share — to prove that plaintiffs’ lawyers will be rewarded for resorting to the state’s courts.

 

A Negative Take on the SEC’s Lawsuit Against Fannie and Freddie: The SEC made quite a splash with the lawsuit it filed last week against several former officers of Fannie Mae and Freddie Mac. New York Times columnist Joe Nocera is unimpressed. In his December 19, 2011 column (here), Nocera describes the complaint as “extraordinarily weak.”

 

The complaint alleges that the organizations misled investors about their exposure to subprime mortgages. Nocera contends that in order to make its case, the SEC lumps together all kinds of mortgages as subprime. He also notes that there are no damning emails and no allegations of insider stock sales. In addition, he contends that in their regulatory filings the firms “clearly laid out the credit characteristics of their mortgage loan portfolios,” noting in that regard that the federal judge presiding over the Fannie Mae lawsuit threw out their complaint because the company’s disclosures were adequate. His final point is that Fannie and Freddie’s mortgage loan default rate is actually well below the national average. Fannie and Freddie, Nocera suggests, are not to blame for the entire crisis.

 

A December 20, 2011 column on the Bank Think blog (here), challenges Nocera’s conclusions, referencing earlier New York Times articles about the moral hazards of the policy Fannie and Freddie adopted in the 90s (as a result of political pressure) to ease mortgage lending standards. The earlier articles quoted commentators as saying that looser standards could lead to increased defaults and even bank failures that could in a time of crisis require a government bailout. The institutionalized imprudent lending caused the crisis, the author contends.

 

Whatever else might be said about the lending policies, it should be noted that the lawsuits are not about the policies, but about Fannie and Freddie’s disclosures. Nocera’s point is not that Fannie and Freddie are beyond reproach; to the contrary, his concern is that these organizations “real sins” are being “largely overlooked in favor of imagined ones.”

 

The well-publicized settlement this past week of the FDIC’s lawsuit against three former officers of the failed WuMu bank was widely reported as having a value of $64.7 million. A closer look at the parties’ December 15, 2011 settlement agreement reveals some interesting details about the settlement, including the specifics of how the FDIC came up with the reported $64.7 million figure for the settlement. The settlement documents also raise some interesting questions.

 

Washington Mutual Bank failed on September 25, 2008, in the largest bank failure in U.S. history. As discussed here, in March 2011, the FDIC as receiver for the failed bank filed a lawsuit in the United States District Court for the Western District of Washington against WaMu’s former CEO, Kerry Killinger, its former President and COO, Stephen Rotella, and its chief of home lending, David Schneider. The FDIC’s complaint also names Killinger’s wife, Linda Killinger, and Rotella’s wife, Esther. The three former officers were alleged to have caused the bank’s demise through the aggressive residential lending strategy the bank pursued. The claims against the officials’ wives were based on claims that the spouses had arranged to transfer ownership of residential properties in order to evade creditors.

 

There was other litigation filed in connection with the events surrounding WaMu’s collapse, including a securities class action lawsuit separately filed against certain former directors and officers of WuMu; the bank’s offering underwriters; and its auditors. As discussed here, in July 2011, the securities class action lawsuit settled for $208.5 million, of which $105 million was to be paid on behalf of the former directors and officers. The entire $105 million amount was to be funded by the bank’s D&O insurance.

 

Although there were advance reports that the FDIC’s lawsuit against the former WaMu executives had settled, the FDIC did not formally announce the settlement until December 15, 2011. The FDIC’s press release announcing the settlement can be found here. The FDIC also released a detailed summary of the settlement, which can be found here.

 

As explained in the FDIC’s press release and in the accompanying summary, and as detailed in the parties’ settlement agreement, the $64.7 million settlement consisted of several components. The actual cash component of the settlement totaled only $40 million, of which $39.575 million is to be paid on the individual defendants’ behalf by the bank’s D&O insurers. The various insurers in the D&O insurance program that is contributing to the settlement are identified on page 2 of the settlement agreement, as well as in Exhibit A to the settlement agreement. In addition to the cash amount to be paid by the D&O insurers, a total of $425,000 in cash is to be paid by the three former officers ($275,000 from Killinger; $100,000 from Rotella; and $50,000 from Schneider). 

 

The remaining $24.7 million nominal value of the settlements consists of the transfer to the FDIC of certain claims the three individuals have filed in connection with the bankruptcy proceedings of WaMu’s corporate parent holding company. The amount and type of these claims varies among the three individuals, but basically the claims consist of various types of retirement, severance or bonus compensation to which the three individuals claim they are entitled.

 

In addition to the $64.7 million settlement of the FDIC’s action against the three former officers and two of their wives, the FDIC’s December 15 press release also mentions a separate $125 million settlement agreement. Though the information the FDIC provided about the $64.7 million settlement is quite detailed, the FDIC’s press release provides few details regarding this separate $125 million settlement. The press release says only that when the $64.7 million settlement is “combined with the $125 million settlement that the FDIC will receive under the settlement agreement with WMI [the bankrupt holding company] to release its claims against 12 former WaMu directors and other officers, this settlement will result in payments and turn over of claims totaling $189.7 million.”

 

There are a number of interesting things about the settlement and the settlement documents.

 

First, the settlement against the three executive officers may have a nominal face value of $64.7 million, but the actual value could prove to be substantially less. The individuals’ claims in the bankruptcy proceeding are among the many claims asserted by unsecured creditors and are also subject to whatever defenses the bankrupt estate may have. The ultimate value the FDIC actually receives from the assignment of these claims might be nowhere near the face values claimed in the various settlement documents.

 

Second, the D&O insurers’ $39.575 million contribution to the settlement could use a little more elaboration. The D&O insurance program described in the settlement agreement consists of $100 million, arranged in six layers. One might assume that the insurers’ $39.575 million contribution to this settlement represents all or substantially all of the proceeds remaining in the insurance program, owing to the erosion of the limits through the accumulation of defense costs. That is probably what happened, But what is hard to figure is how this insurance and the insurers’ $39.575 million settlement contribution fits in with the other settlements described above, particularly the securities class action settlement and the separate $125 million settlement mentioned in the FDIC’s press release.

 

As noted above, D&O insurers are to contribute $105 million to the securities class action lawsuit settlement. If this amount seems hard to square with the $100 million insurance program described in the FDIC’s settlement agreement with the three executives, it is probably because the D&O insurance contribution to the securities class action settlement was a drawn from a separate tower of insurance. Indeed, stipulation of settlement relating to D&O portion of the securities class action lawsuit describes a very different insurance program than the one the FDIC describes in the more recent settlement. The class action settlement documents describe a $250 million insurance program (not a $100 million program), consisting of a different line up of carriers than listed in the FDIC settlement documents. Although it is hard to tell from the much less detailed description of the insurance tower in the FDIC’s settlement documents, it looks as if the FDIC settlement is to be funded out of a separate tower of insurance, perhaps relating to a separate policy year.

 

If it is hard to square the details of the FDIC settlement and the securities class action settlement, the separate $125 million settlement is a real puzzle. The FDIC’s press release does not explain the source of funds for the $125 million settlement. Indeed, it is hard to tell from the FDIC’s press release exactly what is going on with the $125 million settlement. The FDIC’s press release describes it as a “settlement agreement with WMI to release its claims against 12 WaMu directors and other officers.” This sentence is confusingly written, but it seems to suggest that the settlement is between the bankrupt holding company and the FDIC, and the $125 million is to be paid (by whom?) in order to secure from the FDIC a release of the FDIC’s claims against the bank’s former directors and officers.

 

From the comments about the $125 million settlement in the press, I am making the guess that the bankrupt estate agreed to pay the amount on the theory that if the FDIC sued the various other directors and officers, these directors and officers would be entitled to indemnification. The estate agreed to pay the $125 million, in exchange for the FDIC’s release of its claims, without the FDIC having to actually go through the necessity of actually filing a lawsuit against the other directors and officers.

 

Whatever else may be said about the $64.7 million settlement, it is undeniable that the three executives were called upon to contribute to the settlement out of their own assets, both in the form of cash contributions and in the form of the surrender of rights the individuals themselves undoubtedly considered to be valuable. I emphasize this because one of the questions I have repeatedly asked during the current banking crisis is whether the FDIC will seek to recover from the personal assets of directors and officers of failed banks. The FDIC’s settlement with the three executive officers shows that the FDIC may indeed seek to recover from the personal assets of individuals. One might speculate that the FDIC’s actions may have something to do with the fact that the WaMu collapse was the largest bank failure in U.S. history. It is hard to know the extent to which that aspect of this settlement is relevant to what approach the FDIC might take in connection with its other failed bank lawsuits.

 

While the individual executives did indeed contribute toward the settlement out of their own assets, the settlement has been criticized, mostly on the theory that the individuals did not contribute enough. For example, in her December 17, 2011 column in the New York Times, Gretchen Morgenson referred to the $64.7 million settlement as representing only a “pittance” and as “small potatoes.” She gripped that much of the cash value is to be funded by D&O insurance.

 

For myself, I am unprepared to judge the settlement. I would need to know more about the amounts remaining under the insurance policies. I would also need to understand more about the interaction between the amount of the FDIC’s recovery from the three executives; the three individuals’ rights of indemnification from the bankrupt estate; and the $125 million settlement. (Morgenson suggests that any additional recoveries from the individuals, if indemnified by the estate, would simply reduce the $125 million settlement.)

 

The reality is that if the FDIC had pressed for greater recovery or a larger settlement, it is possible that all the FDIC would have accomplished would have been further erosion of the remaining D&O insurance limits through the accumulation of additional defense expenses. The end result likely would have been an even smaller recovery. The $64.7 million settlement may not satisfy Morgenson and others, but it may have been the best available.

 

I will say that one particular criticism of Morgenson’s is misplaced. She disparages the settlement as a “wrist slap” and “yet another example of the minimalist punishment meted out to major players in the credit boom and bust.” Morgenson’s criticism fundamentally misperceives the nature of the FDIC’s action against the WaMu executives.

 

The FDIC’s action, in its role as WaMu’s receiver, was never intended as a means to administer punishment. Receivership actions are simply salvage operations, intended to try to reduce (or rather, offset) the failed bank’s losses. Whether punishment is to be sought is the business of other agencies and regulators – the Department of Justice, the OCC and the SEC. (Indeed, in the FDIC has referred cases to the DoJ and the SEC where the circumstances surrounding a bank’s failure appear to warrant, as apparently was the case with the failed United Commercial Bank, about which refer here [scroll down]). Whether or not these agencies’ inaction in connection with WaMu’s failure may fairly be criticized, it is not a fair criticism here that the FDIC acting as WaMu’s receiver was insufficiently punitive. The administration of punishment is simply not the FDIC-R’s role.

 

The FDIC as receiver for the failed WaMu bank sought only to maximize its recovery of dollars, and that I strongly suspect that the settlement they reached with the three executives offered the best opportunity for the agency to maximize its dollar recovery.

 

Special thanks to a loyal reader for providing me with a link to the FDIC’s settlement agreement.

 

With the implementation of potentially rich whistleblower bounties under the Dodd-Frank Act, there have been concerns that the incentives will  not only lead to increased numbers of reports and increased enforcement activity, but that the regulatory action will in turn generate follow-on civil litigation. A securities class action lawsuit filed this past week against Bank of New York Mellon give a glimpse of how heightened whistleblower activity could lead to increased follow- on civil litigation.

 

As reflected in their press release (here), on December 14, 2011, plaintiffs’ lawyers initiated a lawsuit in the Southern District of New York against the Bank of New York Mellon, twenty of its directors and officers, and its offering underwriters. According to the press release, the plaintiff’s complaint, which can be found here, alleges that the defendants “misled investors regarding the Company’s financial condition by reporting inflated revenue and concealing risks attributable to BNY Mellon’s participation in a scheme to fraudulently overcharge its custodial clients for foreign currency ("FX") trades.”

 

According to the complaint, the details about the bank’s alleged practices first surfaced in January 2011 when two whistleblower lawsuits (in the form of qui tam actions) against BNY Mellon in Virginia and Florida were unsealed. Among other things, the whistleblower suits alleged that BNY Mellon manipulated FX rates, which were selected to maximize the company’s fees. As a result of publicity surrounding these allegations, the Virginia attorney general filed a complaint in intervention relating to the company’s foreign currency. In October 2011, the New York Attorney General and the U.S Department of Justice each filed civil actions against BNY Mellon. The securities lawsuit complaint alleges that the company is also the subject of an SEC investigation.

 

The regulatory actions against BNY Mellon all followed in the wake of the initial whistleblower allegations, which in turn led to the various civil actions against the company, now including the securities class action lawsuit.

 

The qui tam actions that the initial whistleblower filed against the BNY Mellon are not directly related to the whistleblower provisions of the Dodd-Frank Act. (However, as noted in a November 16, 2011 Wall Street Journal article, here, BNY’s foreign currency practices are also the subject of whistleblower reports to the SEC.) The train of events that the BNY Mellon whistleblower allegations set in motion shows how the revelation of whistleblower allegations can lead not only to significant regulatory action but also to significant follow on civil litigation.

 

The whistleblower provisions of the Dodd-Frank Act have only recently been implemented and the SEC’s program is only in its earliest stages. It remains to be seen exactly where the program will lead. But given the substantial bounties provided for in the Act it seems likely there will be increased numbers of reports to the SEC, which in turn could mean increased levels of enforcement activity. Along with all other concerns these possibilities present, there is also the concern that the increased number of reports and increased enforcement activity could, following the same sequence illustrated in connection with the BNY Mellon, lead to a surge in follow-on civil litigation. As we head into 2012, we will have to watch whether increased whistleblowing lead to increased follow-on civil litigation, similar to the suit with which BNY Mellon was just hit.

 

A View from a Window: In those days, the car ferry traversed the Cook Strait twice daily, in the morning heading south from Wellington, on the Southern end of the North Island of New Zealand, and in the evening heading north from Picton, on the Northern end of the South Island. (There are more ferries now, and the crossings more frequent.)

 

After the ferry leaves Picton, the first hour of the northward journey runs through the Queen Charlotte Sound, winding through sea-drowned valleys and steeply sloped channels. Where the Sound finally opens up into the Strait, a single white house sits on a huge bluff, standing alone against a stark landscape.

 

Sometimes when I am having trouble falling asleep, I picture myself standing in the window of the house, in the evening, just as the ferry passes below. A few sounds from the ship drift up to house – a bit of conversation, the clink of a glass, a few notes of music. But the ship moves quickly and it soon disappears into the gathering night. The white foam from the ship’s wake quickly dissipates as well, and all is quiet, in a place remote from the troubles and worries of the world.

 

I watch for a time as the unfamiliar stars of the Southern sky emerge. I turn from the window and slide into bed. And then gentle Sleep envelops me in her warm, soothing embrace, and I drift away, dreaming dreams of serenity and contentment.  

 

The essay question on one of my son’s college applications supplied only the brief prompt: “You are looking out of a window.” For some reason, I felt compelled to respond to this odd prompt. Strangely, my son was uninterested in my brief essay, and uninterested in showing me what he came up with as his response, as well.

 

As a result of legal changes taking place in many countries around the world, as well as U.S. Supreme Court case law developments, questions involving the possibility of securities litigation outside the U.S. has become an increasingly high profile issue. In a guest post, Robert F. Carangelo, Paul A. Ferrillo and Catherine Y. Nowak of Weil, Gotshal & Manges LLP take a detailed look at the issues surrounding the emergency of securities litigation activity and exposures out side the U.S.

 

Many thanks to Robert, Paul and Catherine for their willingness to publish their article here. I welcome guest posts from responsible commentators on topics relevant to this blog. Any readers who are interested in publishing a guest post on this site are encouraged to contact me directly. Robert, Paul and Catherine’s guest post follows:

 

 

 

Key developments in both the litigation and regulatory context are compelling multinational corporations to reassess their global securities litigation and regulatory compliance strategies. In the litigation context, recent U.S. Supreme Court activity has limited the ability of overseas plaintiffs to bring securities class action claims within the United States. As such, plaintiffs have shifted litigation to more flexible jurisdictions in Europe and overseas, thereby forcing global firms listed on multiple exchanges to increasingly defend against securities class action claims and regulatory investigations in numerous jurisdictions. At the same time, governments around the world have responded to the recent financial crisis by bolstering their regulatory capability. Governments have not only adopted more robust legislative regimes with respect to securities regulation, but they have also invested heavily in stronger enforcement protocols.

 

Clearly the rules of the game have changed within the global securities litigation landscape over the past few years. In turn, multinational companies are revaluating their response and responsibilities to adapt to these new challenges. For instance, how do these new realities affect litigation and settlement strategy for securities class actions? [1] What is the impact of a shareholder derivative action being commenced against a multinational firm simultaneously in the United States and abroad? How can global firms comply effectively with heightened U.S. and foreign regulatory investigations? Which of these trends could affect a company’s compliance obligations in a post-Dodd-Frank world? Finally, how does all of this influence a company’s purchase of directors and officers liability insurance? 

 

A new securities litigation strategy, or “Playbook”, is therefore key for global firms that must now compete under these new realities and regulations. Strategic suggestions are discussed below along with practical advice to help navigate global securities litigation and regulatory enforcement.

 

A.  Litigation Context: An Increase in Overseas Securities Litigation

Traditionally, the United States was deemed by overseas plaintiffs as the premier forum in which to mount a securities class action claim against a publicly-traded company. Federal courts were comfortable applying U.S. securities fraud laws to disputes arising outside of the United States and overseas plaintiffs enjoyed the efficiency and sophistication of the U.S. litigation system. However, last year, in an abrupt reversal, the United States Supreme Court dramatically limited the extraterritorial application of U.S. securities laws in Morrison v. National Australia Bank Ltd., 130 S. Ct. 2869 (2010). This reversal now not only bars plaintiffs from establishing jurisdiction in the United States over a multinational company traded on non-U.S. exchanges, it also limits U.S. jurisdiction in cases involving non-exchange-based securities transactions.

 

While Morrison will likely curb the filing of certain securities litigation actions in the U.S., the net effect of this case seems to be that such litigation will simply shift to other, more flexible, jurisdictions. For example, in 2010, the United States District Court for the Southern District of New York dismissed a securities fraud suit against Fortis, a Belgium-based financial services company.[2] Within one year of the SDNY decision, a Dutch law firm filed suit on behalf of foreign investors against Fortis in the Utrecht Civil Court. [3]  The Dutch Suit chch includes as plaintiffs some of the largest pension funds in Europe, mirrors the same allegations that were previously dismissed in the United States.[4]

 

Below is a list of likely jurisdictions where modified versions of U.S.-type securities litigation are likely to materialize. We also identify emerging jurisdictions that are expected to bolster their securities litigation and regulatory framework in the coming years.

 

Canada

Canadian securities class actions are sharply on the rise. Not only is there a record 28 active Canadian securities class actions currently being considered by Canadian courts, but these class actions are estimated to represent approximately $15.9 billion in claims.[5] This rise can be partly attributed to the perception that Canada has very similar securities class action legislation as the U.S. and therefore plaintiffs routinely launch parallel claims in Canadian jurisdictions. Some of these similarities include comparable certification requirements and the existence of both primary and secondary liability under the laws of most Canadian provinces. 

 

Two recent developments, however, stand out in their ability to increase significantly the number of securities suits brought forward in Canada. First, some Canadian jurisdictions have recently statutorily revoked the “reliance” element of a securities fraud cause of action.[6] By completely removing the reliance requirement in Ontario securities legislation, plaintiffs will no longer have to prove reliance at all, nor rely on a presumption, such as “fraud-on-the-market”, to properly mount a statutory-based claim. It seems likely then that plaintiffs may look to Ontario to advance claims that would otherwise be blocked in the United States due to deficiencies in proving reliance.The other major development is the endorsement of litigation funding in Ontario. In Dugal v. Manulife Financial Corporation, (2011 ONSC 1785, ¶ 3 (2011)),  the Ontario Superior Court approved a third party funding arrangement between the plaintiffs and Claims Funding International (“CFI”), an Irish corporation.[7] In arriving at his decision Justice Strathy commented on how the “loser pays” system, which is currently the typical method of assigning the costs of the litigation in Ontario, disincentivizes a class representative from coming forward: “the grim reality is that no person in their right mind would accept the role of representative plaintiff if he or she were at risk of losing everything they own … no rational person would risk an adverse costs award of several million dollars to recover several thousand dollars or even several tens of thousand of dollars.”[8] It is therefore not surprising that analysts have observed that Justice Strathy’s comments “could prove persuasive to judges in other Canadian jurisdictions and could also encourage potential plaintiffs and litigation funders to enter into similar agreements”[9] throughout the country.

 

There are, however, some limitations on the breadth and scope of Canadian securities fraud claims. In Ontario, damages are limited to the greater of 5 percent of the market capitalization of the company, or $1 million.[10] Damages pertaining to directors and officers are also generally limited to the greater of 50 percent of compensation or $25,000.

 

United Kingdom

In the U.K., class actions have not reached the scale of the U.S., but are routinely applied under current legislation. Class actions, or “group actions,” may be brought under Part 19.11 of the English Civil Procedure Rules, which provides that a Group Litigation Order (“GLO”) can be made to provide for the management of cases alleging common issues of law and fact.[11] Securities fraud related claims, more specifically, can be made either under common law principles (e.g., fraud, deceit, or negligent misrepresentation), or under Section 90 of the Financial Services Markets Act of 2000 (for liability relating to statements made in a prospectus.)[12] Under these provisions, claims can be pursued in a representative action where one representative claimant or defendant acts on behalf of a class of individuals. Shareholders are also permitted to bring derivative suits for director negligence, breach of duty or breach of trust under the U.K. Companies Act 2006.[13] The increased use of litigation funding in the U.K. may also make securities class action claims more viable.[14]

 

 

Netherlands

The Netherlands is also no stranger to securities fraud claims.  In contrast to the U.S., the issue of jurisdiction has not been seriously challenged in Dutch courts. Therefore, courts in the Netherlands are much more flexible in asserting jurisdiction, such as Fortis, which we discuss above. Courts in the Netherlands have also adopted a class settlement procedure, known as WCAM, “to create legally binding multi-national settlements of class action suits alleging securities fraud.”[15] One such example is the landmark $352 million Royal Dutch Shell settlement, which arose from allegations by European investors that Shell overstated its oil and gas reserves.[16] As such, the Netherlands might be the new “place to be” for investors seeking large recoveries for their securities fraud claims.

 

Germany

Though not yet as class action friendly as other highly-industrialized countries, substantive securities fraud claims are filed in Germany. For instance, after a similarly-styled securities lawsuit was dismissed in the U.S. following Morrison, a Canadian bank brought suit in Stuttgart District Court alleging that Porsche manipulated the shares of Volkswagen common stock in 2008 when it was trying to take over Volkswagen.[17]

 

Important differences do, however, exist within the German approach to securities litigation. For instance, Germany passed the Capital Investors’ Model Proceeding Law in 2005. This legislation serves as the primary legal authority for securities fraud class actions.[18] Rather than providing a mechanism to certify a “class-type” claim, the German legislation instead provides for the designation or selection of a “model case.” This “model case,” allows common elements of claims to be litigated first, and its common rulings bind all petitioners.[19] Another difference is Germany’s use of an “opt-in” system. In contrast to the “opt-out” approach in U.S. securities cases, only those claimants who actively choose to opt into the model case before a final judgment or settlement are bound by the decision.

 

Other Emerging Jurisdictions

While some jurisdictions may not have as robust of a securities litigation framework as the countries mentioned above, recent developments across different regions reinforce the need for global firms to monitor potential litigation venues around the world. Australia, for instance, has a well-established history of litigation funding and has adopted legislation that is highly similar to U.S.-style securities laws. Mexico, also recently amended its laws to allow consumers and investors to bring class actions.[20] High-profile restructurings in the Middle East (e.g. Dubai) have spurred shareholders in that region to seek better legislative protections and possible compensation. Finally, securities experts have also speculated that China, in an effort to attract even more investment capital into the country, is likely to introduce more stringent corporate governance and securities standards in the near term.[21]

 

B.    Regulatory Context: Stronger Overseas Securities Regulatory Frameworks

Just as U.S. style securities fraud litigations are heating up in foreign jurisdictions, foreign governments are also enacting new laws and institutions designed to regulate securities and address corruption in the aftermath of Dodd-Frank.

 

Stronger Regulators in Canada and the United Kingdom

Canada and the United Kingdom are both undertaking substantial reform in order to implement stronger regulatory and enforcement agencies. One of the biggest adjustments in Canada is the recent initiative to consolidate the thirteen provincial securities commissions that currently exist into a single regulator at the federal level.[22] The proposed consolidation will bolster regulatory and criminal enforcement across the country and allow for a more consistent approach to securities regulation.[23] In February 2011, the U.K. HM Treasury published a consultation paper providing more detail regarding recent financial regulatory reforms in the U.K. These reforms would be overseen by three new regulatory authorities: the Financial Policy Committee (which would regulate the U.K. financial system as a whole); the Prudential Regulation Committee (which would regulate financial institutions that carried significant risks on their balance sheets); and the Financial Conduct Authority (which would be the successor to the U.K. Financial Services Authority (FSA), the U.K.’s equivalent of the U.S. Securities and Exchange Commission). Under this scheme, the Financial Conduct Authority will have “as it core purpose, protecting and enhancing the confidence of all consumers of financial services . . . .”[24] The introduction of these new institutions by 2012 highlights the commitment of each government to building a stronger enforcement regime for publicly-traded companies.

 

New Anti-Bribery Legislation in Europe

Many countries in Europe have also adopted new anti-bribery legislation that may affect international issuers. The U.K. Bribery Act, which went into effect earlier this year, creates new liabilities for companies that fail to prevent the use of bribery within their organizations.[25] Similarly over the past year, Russia and China both enacted anti-bribery legislation, and Spain updated its anti-bribery statutes thereby criminalizing corporate bribery in that country.[26]

 

An Additional Layer of Regulatory Oversight

Finally, public-traded companies listed on multiple exchanges will now have to navigate another layer of regulatory oversight in Europe, due to the recent introduction of a new European Union regulatory framework for securities and banking.[27] The new European Securities and Markets Authority will provide overall guidance to the European financial markets and will be responsible for ensuring that a single set of harmonized regulations are applied by national regulators.[28]

 

The result of this torrent of regulatory reforms is clear: global firms must be able to navigate not only multiple jurisdictions, but multilateral regulatory initiatives as well. This requires an intimate and thorough understanding of the new rules of the game to develop successful, sustainable securities strategies.

 

C.   Overseas Regulatory Enforcement Activity 

As international securities regulation increases, so does international regulatory enforcement activity. In the U.S., Dodd-Frank reforms allow the S.E.C. and U.S. Department of Justice to assert jurisdiction under the more lenient “cause” and/or “effect” tests, thereby significantly increasing the reach of these regulators. In July 2010, French regulators pursued a large French hedge fund for insider trading,[29] and in January 2011 filed insider trading charges against France’s largest publisher.[30] In 2010, regulators in Hong Kong prosecuted insider trading charges against a large hedge fund.[31] In 2011, the FSA levied a substantial fine against a large multinational company in the U.K. for failing to have proper anti-bribery controls in place.[32] Outside of the bribery context, the FSA also ordered another large fine against the former Chairman of a large U.K. supermarket chain for failing to properly disclose voting rights in such company.[33] In Canada, regulators have also been active. Most recently, the Ontario Securities Commission has been aggressively investigating allegations of securities fraud and insider trading against executives of Sino-Forest Corp.[34] 

 

Cooperation among international securities regulators has also become commonplace.[35] For instance, regulators in France, Costa Rica, and the United States recently collaborated, and later collected significant penalties from a global communications company relating to anti-bribery charges.[36] International issuers would be prudent to update their regulatory protocols with the understanding that future cooperation with multiple regulators may require a much more rigorous response.

 

D.   What Does All this Mean for the Multinational, Publicly Traded Company?

The possibility of trans-national securities litigation and enforcement activity is very real, especially as the plaintiffs bar adapts to the new landscape and foreign jurisdictions. Below are a few suggestions aimed at establishing the new “Playbook” regarding global securities litigation and regulation:

 

Designate a Global Quarterback — Internally and Externally

The potential for U.S.-type securities litigation and enforcement activity abroad requires a reassessment of both internal and external resources. Internally, foreign companies trading on multiple foreign exchanges need to devote legal resources toward understanding the securities laws and regulations in potentially problematic jurisdictions, jurisdictions where new regulations have been implemented, or in jurisdictions where there is likely to be significant groups of potentially-affected shareholders. This type of understanding is crucial in instances where companies are contemplating or have already completed securities offerings on foreign exchanges.

 

For similar reasons, the company should also identify outside legal resources in these jurisdictions that have experience dealing with class actions, and are well-versed with cross-border issues relating to both litigation and regulatory investigations. It is also important to manage the expectations of the parties and regulators to ensure that one jurisdiction investigating alleged misconduct does not outpace the other regulators, thereby unfairly advantaging both existing and potential plaintiffs. For instance, there are currently two class actions proceeding simultaneously in New York and Ontario relating to securities fraud allegations pertaining to IMAX Corporation, the makers of a propriety motion picture film format. The Ontario Superior Court has endorsed plaintiffs’ ability to conduct some discovery, even though the litigation is still at an early stage.[37] Some commentators suggest that this discovery decision “may enable plaintiffs’ classes composed of both U.S. and Canadian investors to perform an end-run around the U.S. Private Securities Litigation Reform Act (“PSLRA”) by filing suit in Canada.”[38]

 

Counsel must also be acutely aware of complex data privacy laws in the European Union, which make electronic discovery considerably more difficult than in the U.S. Ideally, the best outside resource to coordinate all of these concerns is one international law firm that can efficiently plan and manage both litigations and investigations in multiple jurisdictions at the same time.

 

Review Compliance Activities

It has become especially apparent that Dodd-Frank did not just change the landscape of securities regulation and enforcement in the U.S. As noted above, the U.K. and the European Union are working mightily to coordinate regulatory measures already in place in the U.S. Similarly, many countries are either instituting for the first time, or revising already-established laws relating to insider trading and anti-bribery. As a result, it is important for companies to have the adequate internal compliance resources to monitor, train employees, and respond to a fast-changing international regulatory landscape.

 

Review D&O Insurance

Finally, with the increase in trans-national securities-related litigation and regulatory investigations, it is critically important to verify that the company’s directors and officers liability insurance policy (“D&O policy”) will adequately respond to these new challenges abroad. D&O policies are very tailored instruments and are often dependent on the specific jurisdiction where the litigation or investigation is commenced. Therefore a company must also investigate whether the current D&O policy in place will actually apply not only to potential litigation or investigation in a foreign jurisdiction, but also with regards to any settlement resulting therefrom.[39]  Also, it is important to confirm if the D&O policy in question for the particular claim provides coverage for investigations and shareholder derivative actions (as corporate indemnification obligations may vary from country to country). This is an important and complicated area; it is imperative that large companies carefully determine whether it is worth the expense to engage both experienced insurance counsel and a D&O broker experienced on the international playing field to review its D&O coverage from a trans-national claims and investigations perspective.  This is not an area to be penny wise and pound foolish, as the stakes have undoubtedly risen given the new paradigm of global securities litigation, regulation, and enforcement activity.

 


[1] Certain jurisdictions refer to “class actions” as “mass plaintiff” actions.

 

[2] Copeland v. Fortis, 685 F. Supp. 2d 498 (S.D.N.Y 2010).

 

[3] The Dutch firm filed in association with two plaintiff-side U.S. law firms, Grant & Eisenhofer P.A. and Barroway Topaz Kellser Meltzer & Check, LLP.

 

[4] English Translation of Dutch Writ, filed on January 10, 2011 in Utrecht Civil Court, Netherlands, http://investorclaimsagainstfortis.com/publication.php

 

[5] See, NERA Consulting, Trends in Canadian Securities Class Actions, 2010 Update, http://www.nera.com/67_7185.htm.

 

[6] See e.g., Securities Act, R.S.O. 1990, c. S.5 at s.138.3 (Can.). See Silver v. Imax Corp. [2009] O.J. No. 5573 and [2009] O.J. No. 5585. (in certifying a global class of plaintiffs, Justice van Rensburg appears to have accepted that the "fraud-on-the-market" or "efficient market" theory can also be applied in common law claims in Ontario, at least at the pleading or class certification stage.

 

[7] Id. at ¶ 4.

 

[8] Dugal at fn 28.

 

[9] David H. Kistenbroker, Alyx S. Pattison, Patrick M. Smith, Recent Developments in Global Securities Litigation, 1904 PLI Corp. 607 (2011) at 642 citing Kevin LaCroix, A Closer Look at Litigation Funding and the “Loser Pays” Model, The D&O Diary (Apr. 20, 2011), https://www.dandodiary.com/tags/litigation-funding/

 

[10] This cap or “liability limit” does not apply if a person or company knowingly misrepresents or knowingly fails to disclose certain information.  Securities Act, R.S.O. 1990, c. S.5 at s. 138.7(2) (Can.).  Liability limits also do not apply to common law fraud damages. In Silver v. Imax Corp, the Ontario Superior Court certified common law fraud claims along with statutory claims.

 

[11] Civil Procedure Rules, 2010, Parts 19.10-15. (U.K.).

 

[12] See Financial Services and Markets Act, 2000, c.8, § 382-384. For a claim under Section 90 of the FSMA, the element of reliance is not required to be proven, nor is the element of scienter.

 

[13] Companies Act, 2006, c. 46 (U.K.).

 

[14] Litigation funding allows for a litigant to finance their litigation costs by entering into an agreement with a third party company. In exchange, the third party retains a right to a share in the settlement, pending a successful resolution for the litigant.

 

[15] David H. Kistenbroker, Alyx S. Pattison, Patrick M. Smith, Recent Developments in Global Securities Litigation, 1904 PLI Corp. 607 (2011) at 626.

 

[16] Importantly, the Dutch statute only provides for the resolution, and not the litigation of class claims, thereby rendering it highly attractive to plaintiffs.   Kevin LaCroix, Does the Royal Dutch Shell Settlement Approval Portend a Rush of European Collective Actions? THE D&O DIARY (June 3, 2009) https://www.dandodiary.com/2009/06/articles/international-d-o/does-the-royal-dutch-shell-settlement-approval-portend-a-rush-of-european-collective-actions/.

 

[17] A parallel investigation by German prosecutors of former Porsche company executives continue, as well. Jan Schwartz & Josie Cox, VW’s Porsche Merger Knocked By German Probe , Reuters, (Feb. 24, 2011) http://www.reuters.com/article/2011/02/24/us-porsche-probe-idUSTRE71N1R020110224.

 

[18] David H. Kistenbroker, Alyx S. Pattison, Patrick M. Smith, Recent Developments in Global Securities Litigation, 1904 PLI Corp. 607 (2011) at 643.

 

[19] Note that individual elements are litigated separately and that these individual proceedings are suspended pending the litigation and resolution of the model case. Kapitalanleger-Musterverfahrensgesetz “KapMuG” – the Capital Investors’ Model Proceeding Law (2005). For an excellent overview of Germany’s substantive securities laws, see Gerhard Wegen, Congratulations from Your Continental Cousins, 10b-5: Securities Fraud Regulation from the European Perspective, 61 Ford. L. Rev. S57 (1993).

 

[20] See, Mexico Adopts a Class Action Procedure, (July 29, 2010) http://globalclassactions.stanford.edu/content/mexico-adopts-class-action-procedure-july-29-2010.

 

[21] Dave Bradford, European D&O Insurance Market: Reforms Cause a Shifting Landscape (Sept. 22, 2011) http://corner.advisen.com/advisen_webinars_European_DO_Insurance_Market.html.

 

[22] Several provinces petitioned the Supreme Court of Canada for its opinion on “whether the legislation drafted to implement the national regulatory system is within the constitutional jurisdiction of Parliament.” The Supreme Court is expected to render its decision by the end of 2011. Canadian Securities Transition Office Homepage, http://csto-btcvm.ca/home.aspx; Monica Gutschi, Canada Securities Regulator Seen Mid 2012: Transition Office Head, Wall Street Journal, (September 15, 2011) http://online.wsj.com/article/BT-CO-20110915-712291.html.

 

[23] See, Canadian Securities Transition Office Homepage, http://csto-btcvm.ca/home.aspx.

 

[24] See HM Treasury, A New Approach to Financial Regulation: Building a Stronger System, at 60 (Feb. 20, 2011).

 

[26] See Joe Palazzolo, Russia Criminalizes Foreign Bribery, Wall Street Journal, (May 5, 2011) http://blogs.wsj.com/corruption-currents/2011/05/05/russia-criminalizes-foreign-bribery/; As to Chinese anti-bribery activity, see Amendment VIII of the Criminal Law of the People’s Republic of China, Feb. 25, 2011, which prohibits individuals and corporations from providing “money or property to any foreign party performing official duties or an official of international public organizations for the purpose of seeking illegitimate business benefits.” As to Spanish anti-bribery activity, see reforms to Law 10/1995 of the Spanish Criminal Code.

 

[27] See Regulation (EU) No. 1095/2010 of the European Parliament and of the Council of 24 November 2010.

 

[28] Id. at 331/85 (9); See also, Jonathan Wilson, Dodd-Frank Rules Will Extend SEC’s Global Reach, Financial Times, (Aug. 16, 2011).

 

[29] Louise Armistead, Hedge Fund B&G Faces French Insider Trading Charge, The Telegraph, (July 28, 2010). http://www.telegraph.co.uk/finance/newsbysector/banksandfinance/investmenttrusts/7913366/Hedge-fund-BandG-faces-French-insider-trading-charge.html.

 

[30] Bruce Carton, Securities Enforcement and Litigation Goes Global, securities docket (Feb. 9, 2011, 2:32 pm) http://www.securitiesdocket.com/2011/02/09/securities-enforcement-and-litigation-goes-global/.

 

[31] Robert Cookson, Hong Kong Cracks Down on Insider Trading, Financial Times (Apr. 29, 2010) http://www.ft.com/intl/cms/s/0/a323c01a-533e-11df-813e-00144feab49a,s01=1.html#axzz1Zj91jwz6.

 

[32] CCL Compliance Services, FSA Fines Willus Limited GBP 6.895 Million for Anti-bribery and Corruption Systems and Control Failings (July 21, 2011) http://www.cclcompliance.co.uk/news_and_events/news/9861.

 

[33] Natalie Holt, FSA Fines Sir Ken Morrison £210k Over Share Sales, MoneyMarketing, (Aug. 15, 2011).

 

[34] See Sean B. Pasternak & Doug Alexander, Sino-Forest Executives Face Direct Hit From Regulator in Fraud Probe, Bloomberg, (Sept. 8, 2011).

 

[35] See e.g., Russian Regulator and Deutsche Börse Sign Cooperation Agreement, (May 21, 2010), http://deutsche-boerse.com/INTERNET/MR/mr_presse.nsf/maincontent/3490EB84EF8761D4C125772A004D19A1?Opendocument&lang=en&

 

[36] Squire Sanders, The DOJ and SEC Close 2010 with an FCPA Bang!, (Jan. 9, 2011) http://www.anticorruptionblog.com/industry-investigations/.

 

[37] Dana Peebles and Paul Steep, “Shareholders granted wide pre-suit "discovery" powers in proposed Securities Act cases” (2008) McCarthy Tetrault LLP http://www.mccarthy.ca/article_detail.aspx?id=4120

 

[38] David H. Kistenbroker, Alyx S. Pattison, Patrick M. Smith, Recent Developments in Global Securities Litigation, 1904 PLI Corp. 607 (2011) at 641.

 

[39] For example, many jurisdictions require D&O Policies to be issued by an insurer that is “locally admitted” in the particular jurisdiction, rather than a global insurer from another country, such as the U.S.