When Ohio Attorney General Richard Cordray announced this past Friday that he had entered a massive $725 million settlement on behalf of three Ohio pension funds in the long standing securities class action lawsuit against AIG, he definitely accomplished his objective –his announcement made the front pages of all the newspapers in Ohio (it was the lead story in Saturday’s Cleveland Plain Dealer).

 

There is only one problem. AIG doesn’t have the money to pay for the settlement. The plan, such as it is, is that AIG is going to fund the first $175 million following the settlement’s preliminary approval. Then, AIG is going to try to conduct a stock offering to raise the remaining $550 million.

 

As Susan Beck put it on the Am Law Litigation Daily, there have been lots of settlement over the years, but "we’ve never seen one quite like this."

 

As reflected in greater detail here, the plaintiffs first sued AIG, certain of its directors and officers, its auditor and certain third parties in October 2004, shortly after then-New York Attorney General Eliot Spitzer first announced his investigation of a "scheme" in connection with commercial insurance transactions involving bid-rigging and the payment of contingent commissions. Further allegations made their way into the complaint following additional revelations.

 

The plaintiffs’ 497-page consolidated third amended complaint filed in March 2006 included  the bid-rigging and contingent commission allegations, as well as allegations that AIG falsified its financial statements, among other things, by entry into a finite reinsurance transaction with General Reinsurance Corporation, as well as of reinsurance transactions with other offshore entities. In May 2005 AIG restated five years of earnings, reducing shareholders’ equity by more than $2.7 billion.

 

Even before the $725 million AIG settlement announced Friday, the Ohio AG’s office had already entered settlements totaling $284.5 million in the case. First, on October 3, 2008, the Ohio AG entered a $97.5 million settlement with PricewaterhouseCoopers, as reflected here.

 

Second, on February 2, 2009, the Ohio AG announced that Gen Re had agreed to a $72 million settlement.

 

Third, on August 13, 2009, the Ohio AG announced that he had entered a $115 million settlement with former AIG CEO Maurice Greenberg, and several other former AIG executives, as well as certain corporate entities affiliated with Greenberg. (Several of these same individuals and entities also separately settled a related derivative lawsuit for $115 million, largely funded by insurance, as discussed here.)

 

The sum of these settlements in the securities class action case, including the recently announced settlement with AIG, is $1.0095 billion, which, according to data from Risk Metrics (here), would rank as the tenth largest securities class action settlement amount. Indeed, the AIG settlement by itself would rank twelfth on the list.

 

There is the small problem of how AIG’s is going to pay for the $725 million settlement. The company, you will recall, has received over $130 billion in U.S government bailout support and is now 80 percent owned by the U.S. taxpayers. The company is struggling to sell assets to repay the bailout money.

 

According to AIG’s July 16, 2010 filing on Form 8-K, the settlement is "conditioned on its having consummated one or more common stock offerings raising net proceeds of at least $550 million prior to final court approval." The decision whether "market conditions or pending or contemplated corporate transactions make it commercially reasonable to proceed with such an offering will be within AIG’s unilateral discretion."

 

The intent is for AIG to register a secondary offering of common stock on behalf of the U.S. Treasury. AIG also has the option to fund the $550 million from other sources. If AIG fails to fund the $550 million, the plaintiffs have several options. They can terminate the agreement; they can "elect to acquire freely transferable shares of AIG common stock with a market value of $550 million provided AIG is able to obtain the necessary approvals"; or they can  extend the period for AIG to complete the offering.

 

A securities offering conducted for the sole purpose of funding past litigation is not exactly the most attractive investment opportunity, even under the best of circumstances. But these are not the best of circumstances for AIG. Indeed, the settlement’s announcement comes at a time when the company’s leadership seems in disarray, after the company’s board chair resigned following a "board battle" with the current CEO. The company faces a daunting array of challenges as it seeks to repay the bailout money, as reflected in a July 17, 2010 Wall Street Journal article here unrelated to the settlement and the projected stock offering,

 

A July 16, 2010 New York Times article about the settlement quotes one commentator as saying, "There’s still a lot of question marks hanging over AIG. How would you write the prospectus for it? The document would be quite appalling when it described the risks."

 

The offering would, according to the article, be "rife with uncertainties" given the fact that the offering would be dilutive of the government’s ownership interest. On the other hand, as the article also points out, "taxpayers and legislators would cry foul" if the lawsuit were funded out of the $22 billion that remains available to the company.

 

Along with the questions of how the company will fund the $550 million settlement chunk is the question of how the company is paying for the first $175 million. Given the U.S. taxpayers’ interest in the company, it seems like there should be some explanation somewhere about the source of that money, but none of the publicly available information provides any explanation. It is possible that insurance will fund that portion, although none of the disclosure documents make any suggestion of that possibility, and in addition, significant insurance funds were previously paid to fund the derivative lawsuit settlement identified above. The settlement agreement itself might answer the question, but it is not yet available on PACER.

 

The lawsuit itself is a vestige of a different time and place. Though the events involved are only a half dozen years in the past, the complaint reflects a lengthy roster of individuals whose roles have long-since changed in ways that no one could possibly have imagined at the time. The alleged wrongdoing , while involving some fairly egregious circumstances, pales by comparison with the cataclysmic events that followed. Given this antediluvian aspect of this case, it does seem high time that it settled. However, only time will tell if the parties have in fact succeeded in driving a stake into the heart of this beast.

 

Somehow it seems fitting that just this past week there were news reports that during a recent lunch at the Four Seasons Hotel in New York, where Greenberg was having lunch with former Citigroup CEO Sandy Weill, Spitzer approached Greenberg, stuck his hand out, and asked Greenberg if he would appear on Spitzer’s CNN show. Unsurprisingly, Greenberg declined. Can you imagine the look on Greenberg’s face? The world is a very strange place sometimes. Or, at least there are some strange inhabitants.

 

It is also entirely fitting that Cordray’s and Spitzer’s names should be linked in connection with this story. Cordray has definitely borrowed several key pages out of Spitzer’s political play book. Playing the role of Wall Street Scourge definitely worked for Spitzer, at least until his extracurricular activities earned him some extended gardening leave followed by his current rehabilitation assignment on CNN. It also seemed like it was working for Connecticut AG Richard Blumenthal until it turned out he had oversold his credentials as a veteran.

 

Cordray is playing the angle for all it is worth. His website has a separate page devoted to securities class action litigation activities, including a June 1, 2010 summary of the current cases. (The document is headed "Holding Wall Street Accountable.") However, it is probably worth noting that many of the cases on Cordray’s list were actually launched by his predecessors, although Cordray did demonstrate his own initiative with the action he recently filed against the rating agencies, about which refer here.

 

The New Homogeneity: If, as seems likely, Elena Kagan’s nomination to the Supreme Court is confirmed, the Court’s make-up will, at least in certain respects, reflect unprecedented levels of diversity. Three women will be served on the Court for the first time. The Court includes a Hispanic and an African-American. There will be six Catholics and three jews, although, curiously, no Protestants.

 

But in another respect, Kagan’s arrival will make the Court even less diverse. As detailed on a July 16, 2010 post on the Economix blog (here), with Kagan’s addition, eight out of the nine justices will have attended one of two elite East Coast, Ivy League law schools. The only exception, Justice Ginsberg, graduated from Columbia Law School, but she started at Harvard and transferred after her first year to be in New York with her husband. According to data cited in the blog post, for the first time in the Court’s history, every sitting justice will have a law degree from the Ivy League.

 

The immediate question is whether this matters. There has always been a healthy representation of Ivy League graduates on the Court. Such luminaries as Oliver Wendell Holmes and Louis Brandeis immediately come to mind.

 

But even if the Ivy League has always been well represented on the Court, it has never been quite so dominant, and a wider diversity of educational backgrounds was always present. William Rehquist and Sandra Day O’Connor were classmates at Stanford Law School. Earl Warren attended Boalt Hall at the University of California. Warren Berger attended the William Mitchell College of Law. Indeed, Robert Jackson, usually cited as one of the Court’s finest writers, did not even graduate from law school, but rather apprenticed for a lawyer in Jamestown, New York.

 

Nor is the Court is the only branch of government that has been captured by these same two schools. The last four occupants of the White House, including the current President, all have at least one educational degree from one of these same two schools. (George W. Bush had one of each.)

 

When and how did this very peculiar form of elitism get instituted?

 

To be sure, no one could claim that the current justices or the recent Presidents are cookie cutter copies of each other. But the concentration of power and authority in the hands of a few persons sharing the same elite background seems highly antithetical to some of the most basic notions of American self-government. Or to put it another way, if ethnic and gender diversity are desirable goals, at the same time shouldn’t we be taking care that we are not undermining the benefits of diversity by concentrating power and authority in the hands of a small elite?

 

The Court’s peculiar narrowness actually takes several forms. Not only do the current justices share a common background of higher education, their careers have all followed similar and similarly narrow paths. Their individual resumes consist largely of service in the judiciary and academia, with the occasional service as a government lawyer or prosecutor thrown in. None of the current justices has ever had to make payroll or struggled to try to make a profit. None has ever had to establish a political coalition or get themselves elected. None has served in the military. Even their legal experience is narrow – none has been a criminal defense attorney, for instance.

 

Some may argue that I am making too much of the necessarily limited demography of a very small population. But I do think the slender reach of the Court’s collective education and experience has practical consequences. For example, the Court has recently shown a predilection to take up securities cases, but none of the justices seem particularly motivated by a concern for the financial markets or to have a vital appreciation of the importance of the financial markets for the country’s well being. Instead, the cases seem to represent challenging intellectual problems, detached from their deeper significance.

 

All I am saying is that before everyone puts their arms out of joint congratulating each other about the increasing diversity on the Court, perhaps the question should be asked whether one kind of uniformity is simply being replaced with a different kind of homogeneity.

 

I Will Assume She Was Not Referring to Me: In her July 17, 2010 column in the Wall Street Journal entitled "Youth Has Outlived Its Usefulness," Peggy Noonan said:

 

Why do so many young bloggers sound like hyenas laughing in the dark? Maybe it’s because there’s no old hand at the next desk to turn to and say, "Son, being an enraged, profane, unmoderated, unmediated, hit-loving, trash-talking rage money is no way to go through life."

 

Poor old Peggy, her memory must be going. Clearly she has forgotten that the surest way to show that your sell by date has passed is to start fulminating about "young people these days" and the things that somebody ought to tell them. On the other hand, she could use somebody to tell her that attempting in a single paragraph to portray her bêtes noires as both laughing hyenas and rage monkeys hardly sets an example of restraint. Perhaps the rage she detects is her own.

 

In a striking series of developments late yesterday afternoon, the Senate passed the financial reform bill and the SEC announced its record-setting settlement of the enforcement action it filed against Goldman Sachs last April. The Goldman settlement drew extensive coverage in the mainstream media, primarily focused on the sheer size of the $550 million settlement and on Goldman’s concessions that, according to the SEC’s press release, "its marketing materials for the subprime product contained incomplete information."

 

Goldman Sachs’ July 15, 2010 statement about the settlement can be found here.

 

There are many other interesting details about the settlement, some of which have not received widespread attention in the media.

 

First, the settlement resolves only the charges against Goldman Sachs itself. According to the SEC’s July 15, 2010 press release, "the SEC’s litigation continues against Fabrice Tourre," who seems to have left to fend for himself. Things don’t appear quite so "fabulous" for Mr. Tourre just now.

 

Second, as reflected in Goldman’s July 14, 2010 "Consent" (a copy of which can be found here), the $550 million settlement amount consists of a disgorgement of $15 million and a civil penalty of $535 million.

 

Goldman acknowledged in the Consent that the settlement funds may be distributed under the Fair Funds provisions of Section 308 of the Sarbanes Oxley Act. In its press release, the SEC states that of the $550 million settlement, $250 million would be paid to "harmed investors" through a Fair Funds distribution and $300 million will be paid to the Treasury.

 

Third, the Consent also reflects the specifics of Goldman’s admissions regarding the Abacus transaction. In paragraph 3 of the Consent, Goldman "acknowledges" that the Abacus marketing materials "contained incomplete information" and that it was "a mistake" for the materials to state that the Abacus reference portfolio was selected by ACA Management without disclosing the role of Paulson & Co or that Paulson’s economic interests were adverse to those of the CDO investors. The consent states that Goldman "regrets" the omission of this information.

 

Fourth, Goldman agrees in the Consent that, other than with respect to the amount of the disgorgement, it will not argue that it is entitled to any offset or reduction of a compensatory damages award in any Related Investor Action by any amount of any part of the company’s payment of a civil penalty in the SEC enforcement action. If a court nevertheless grants an offset, the Goldman has to pay the amount of the offset either to the Treasure or the Fair Fund, within 30 days.

 

Fifth, Goldman agrees both that "it shall not seek or accept, directly or indirectly, reimbursement or indemnification form any source, including but not limited ot payment may to any insurance policy, with regard to any civil penalty" and also agrees that it "shall note claim, assert or apply for a tax deduction or tax credit with regard to any federal state or local tax for any penalty amounts."

 

Sixth, Goldman acknowledges in the Consent that the Commission has not made any promises or representations "with regard to any criminal liability that may have arisen or may arise from the facts underlying this action or immunity from any such criminal liability."

 

Finally, in the Consent, Goldman agrees that it will not make any public statements "denying, directly or indirectly, any allegation in the complaint or creating the impression that the complaint is without factual basis." However, this agreement does not affect Goldman’s "right to take legal or factual positions in litigation or other legal proceedings in which the Commission is not a party."

 

All told, the Consent is a really striking document that — together with the massive size of the settlement itself — bespeaks a compelling need on Goldman’s part to resolve this matter as quickly as possible.

 

An interesting question is the effect that Goldman’s "acknowledgement" in the Consent will have on the various shareholder lawsuits that sprang up in the wake of the SEC enforcement action.

 

On the one hand, the omissions that Goldman acknowledged in the Consent were made in the marketing materials for the Abacus document, not in the public statements to Goldman’s shareholders.

 

On the other hand, Goldman’s acknowledgement that it made a "mistake" when it omitted information from the Abacus marketing materials clearly will be useful for the plaintiffs’ lawyers in the shareholder lawsuits. But, as Duke Law Professor James Cox commented on the WSJ.com Law Blog, even though Goldman admitted to a "mistake," it did not admit to fraud.

 

In any event, the plaintiffs’ lawyers can at least be reassured that Goldman cannot attempt to offset its liability in the shareholder lawsuits by the amount of its massive penalty in this settlement.

 

Andrew Longstreth’s July 15, 2010 Am Law Litigation Daily article with his thoughts about the effect of the Goldman SEC settlement on other litigation pending against Goldman can be found here.

 

Goldman’s undertaking that it would not seek reimbursement or insurance for the amounts of the penalty seems largely symbolic, since it is highly unlikely that any insurance policy would provide coverage for the disgorgement amounts and penalties that the company has agreed to pay. However, the significance of the undertaking may be what it portends for other settlements in other matters. This kind of requirement that enforcement action defendants will not seek indemnification or insurance for amounts paid in SEC enforcement action settlements represents a substantial (and chilling) threat to other persons the SEC may target.

 

The exclusion of Tourre from the settlement is interesting. It is possible that Mr. Tourre himself may have declined to participate, either because he believes he did nothing wrong or because he was unwilling to make the type of acknowledgment the SEC might require as a condition of settlement. It is also possible that the SEC expected Tourre to agree to some type of ban that would undermine his ability to continue to work as an investor banker in the United States. Whatever the reason, it does seem noteworthy that Tourre is not a part of this settlement.

 

Another question about the settlement relates to the proposed Fair Funds distribution. Why does the Treasury get $300 million but "harmed investors" only get $250 million? (I guess that is one way to reduce the deficit.)

 

The other question about the propose Fair Funds distribution is, who are the "harmed investors" who will get these funds? It seems that it would be the two investors in the Abacus transaction, IKB and ACA– except that ACA’s interests have been passed along to Royal Bank of Scotland, as a result of other transactions that ACA entered attendant to the Abacus deal.

 

I suppose the Fair Funds administrator will have to sort all of that out, but it does seem like SEC went to an awful lot of trouble for the benefit of non-U.S. institutional investors that have plenty of problems of their own – and that is setting aside the question whether the institutional investors who entered this transaction are either entirely blameless or merit this type active regulatory protection.

 

As Professor Cox commented (quite appropriately I might add) on the WSJ.com Law Blog, the investors "made out like bandits." (He added that the investors are "not necessarily saints here.") The Los Angeles Times takes a look here at where the settlement money is going and also summarizes the various sordid background details on the Abacus transaction investors.

 

It is interesting to reflect that, according to media reports, the SEC was divided 3-2 on whether to bring the Goldman Sachs enforcement action. The settlement seems to make the decision to bring the case look pretty good. But what is even more curious is that, at least according to yet other media reports, the SEC also split 3-2 on whether to settle with Goldman.

 

I can understand the split vote on whether to bring the action, because the SEC did not, shall we say, have the strongest case in the world against Goldman. But once you have a chance to snag a half a billion dollars, don’t you declare victory and go home for a nice dinner and a glass of wine with your spouse? Geez, seems like a good day’s work to me.

 

Finally, can I just say that while the SEC has touted this settlement as some kind of record, the fact is that there have been larger SEC enforcement action settlements. As reflected in data from NERA Economic Consulting (here), there have been at least two larger SEC enforcement action settlements, including AIG’s February 2006 $800 million settlement and WorldCom’s July 2003 $750 million settlement. The Goldman Sachs settlement is, as the SEC pointed out, the largest settlement against a Wall Street firm. I guess we can all agree that more than half a billion dollars is a lot of money, even for Goldman Sachs.

 

UPDATE: The morning press coverage provided some added perspective on some of the points raised above. First, with respect to the size of the settlement, the Wall Street Journal notes that the $550 million settlement "is equivalent to just 14 days of profits at Goldman in the first quarter."  (Maybe half a billion isn’t a lot of money for Goldman Sachs.) As for whether the amount represents some kind of record, the Journal notes that in 1988 Drexel Burnham Lambert agreed to pay $650 million in fines and restitution. The Drexel settlement included amounts paid to satisfy investors’ civil claims. in 2003, ten Wall Street firms collectively paid $1.4 billion to settle analyst conflict cases. Finally, as for Mr. Tourre, the Journal reports the he plans to "continue trying to clear his name accoding to a person familiar with the matter."

 

Let the Games Begin: The Senate may now have approved the financial reform bill and all 2,319 pages of the bill will now be headed to the White House for President Obama’s signature. But this is not the end, it is the beginning.

 

As Broc Romanek points out on the CorporateCounsel.net blog (here), under the Dodd-Frank Act, "a total of 11 regulators are committed to make 243 rulemakings, 67 studies and 22 new periodic reports under the Act. The SEC itself will be required to conduct 95 of those rulemakings, 17 studies and 5 new periodic reports."

 

Over at the SEC Actions blog, Tom Gorman has a detailed list, here, of several categories of the more significant rule making processes that lie ahead.

 

To those who want to know the meaning and significance of the financial reform bill’s passage, the only honest answer is – stay tuned.

 

As The Joker Said, "Why So Serious?": All of this seems way too serious to me, so it is about time to roll out The Egg Trick. If you have never seen this footage of Dom DeLuise’s unforgettable turn on the Johnny Carson Show, drop everything and watch this right now. With all of this other stressful stuff going on, you need a "break." Enjoy.

 

https://youtube.com/watch?v=gRduPZvIm08%26hl%3Den_US%26fs%3D1

Overall levels of corporate and securities litigation increased during the second quarter of 2010, according to a new study released on July 15, 2010 by the insurance information firm Advisen. A copy of the report can be found here.

 

Preliminary Notes

The litigation analyzed in the Advisen report includes not only securities class action litigation, but a broad collection of other types of suits as well, including regulatory and enforcement actions, individual actions, derivative actions, collective actions filed outside the U.S. and allegations of breach of fiduciary duty.

 

In considering the Advisen report, it is critically important to recognize that the report uses its own unique vocabulary to describe certain of the litigation categories.

 

For example, the report uses the phrase "securities fraud" lawsuits to describe a combination of both regulatory and enforcement actions, on the one hand, and private securities lawsuits brought as individual actions, on the other hand; however, the category of "securities fraud" lawsuits does NOT include private securities class action lawsuits, which is its own separate category (SCAS").

 

In addition, both "securities fraud" lawsuits and securities class action lawsuits, as well as all of the other categories of lawsuits described in the report, are subparts of the aggregate group of corporate and securities litigation the report refers to as "securities suits."

 

Due to these unfamiliar usages and the similarity of category names, considerable care is required in reading the report.

 

The Report’s Analysis

Even though subprime and credit crisis case filings during the second quarter were well below 2009 levels, overall corporate and securities litigation activity was up in the quarter – "nearly 30 percent higher than the first quarter and about 19 percent above the very active second quarter."

 

The report also notes that securities class action litigation activity was up in the quarter as well, largely as a result of litigation relating to the government investigation of Goldman Sachs and the Deepwater Horizon oil spill.

 

However, in what may be the report’s most significant observation, securities class action litigation is becoming an increasingly smaller percentage of all corporate and securities litigation. The report notes that this percentage has been trending downward for several years; securities class action lawsuits, which represented more than half of all corporate and securities lawsuits before 2006, represented only 23 percent of these suits in 2009 and only 19 percent in the first half of 2010.

 

In addition to the relative number of securities class action lawsuits, the absolute number of securities class action suits also declined in the first half of the year. According to the Advisen report, there were 85 securities class action lawsuits in the first half of 2010, which annualizes to 170 cases. The average annual number of securities class action filings during the period 2005-2009, according to the report, is 213. The 2010 decline "is due substantially to a sharp drop in subprime/credit crisis cases."

 

The report also notes that the average time between the end of the class period and the date the lawsuit was filed is lengthening, from 126 days in 2008 to 228 days in the first half of 2010.

 

Though new subprime and credit crisis cases continue to decline, companies in the financial sector remain the most frequent corporate and securities litigation target. According to the report, financial firms were named in about 34 percent of all corporate and securities lawsuits in the second quarter.

 

Though securities class action lawsuit filings as a percentage of all corporate and securities lawsuits have declined, lawsuits alleging breach of fiduciary duty are becoming an increasingly larger percentage of all corporate and securities lawsuits, primarily in connection with merger and acquisition activity. Breach of fiduciary duty cases represented only eight percent of all corporate and securities lawsuits in 2004, but 32 percent of all such litigation in 2009.

 

Discussion

The public dialog about securities litigation tends to concentrate on securities class action lawsuit filings. Though securities class action litigation remains the most costly type of corporate and securities litigation, from a frequency standpoint, securities class action litigation is becoming increasingly less important. According to the Advisen report, more than 80 percent of all corporate and securities litigation in the first half of 2010 involved types of litigation other than class action securities litigation.

 

Moreover this movement of litigation activity away from securities class action litigation is now well-established, having persisted (and indeed accelerated) for well over five years now.

 

The fact is that companies and their senior managers face an increasingly diverse range of potential litigation exposures. The changing landscape of corporate and securities litigation may have important implications for companies’ management liability insurance decisions. At a minimum, the changing mix of litigation suggests that companies should carefully consider potential liability exposures beyond just those involved with possible securities class action litigation.

 

The changing mix of litigation also provides an important context within which to interpret apparent declines in securities class action litigation activity. Even if fewer class action lawsuits are being filed (at least lately, anyway), that does not mean the overall threat of litigation has declined. To the contrary, the Advisen report shows that the threat of corporate and securities litigation generally continues to increase. The litigation threat is not declining, it is simply changing.

 

The more interesting question is what the future may hold for securities class action litigation. In all likelihood the apparent recent decline in new securities class action lawsuits is merely cyclical – there have certainly been prior periods where new securities class action lawsuits fell below historical levels (for example, during the period from mid-2005 to mid-2007). On the other hand, some recent activity – for example, the increase in the number of belated lawsuit filings – suggests that a variety of forces and factors are at work.

 

My own view is that, as has always been the case in the past, the litigation cycle will eventually turn and filing activity levels will revert to the mean. There is an entrenched industry of highly entrepreneurial plaintiffs’ securities class action lawyers who have every incentive to continue to file lawsuits. I suspect strongly that one factor in the current relative downturn in new securities class action filings is that the plaintiffs’ lawyers are simply swamped trying to keep up with the massive wave of complex lawsuits they filed in the wake of the subprime meltdown and the credit crisis. Eventually the decks will clear and they will resume their normal activities, particularly if there are headline-grabbing events that provide litigation fodder.

 

My own prior analysis of first half 2010 securities class action litigation filing activity can be found here. The Advisen report’s analysis of securities class action lawsuit filings in the year’s first half is directionally consistent with my own observations.

 

Advisen Securities Litigation Webinar: At 11:00 am EDT on Friday July 16, 2010, I will be participating in a free, one-hour Advisen webinar to discuss the firm’s Second Quarter Securities Litigation Report. Joining me for the webinar panel discussion will be Carl Metzger from the Goodwin Proctor firm; Carol Zacharias from ACE, and Louise Pennington of Integro. Information about and registration instructions for the webinar can be found here.

　

Corporate Scienter: One of the recurring issues in securities litigation is the question of what is required to establish that the corporate defendant acted with scienter. The question was squarely presented by the Vivendi trial verdict, where, as discussed here, the jury found that the corporation was liable, even though the two individual defendants were exonerated. Judge Rakoff also posed the issue in his notorious initial critique of the SEC’s settlement of the Bank of America enforcement action (about which refer here), where he questioned why the SEC was proceeding solely against the corporation without also pursuing the company’s senior managers.

 

An interesting July 12, 2010 memo from the Arnold & Porter law firm entitled "Whose Mind is It? Pleading and Proving Corporate Scienter" (here) take a detailed look at the appellate case law addressing the questions of what is required to establish that the corporation acted with the requisite state of mind to establish a corporate securities violation.

 

The memo surveys the various recent corporate appellate decisions, including, among others, the Ninth Circuits’s decision in the Glazer Capital Management case (refer here) and the Seventh Circuit’s decision on remand from the Supreme Court in the Tellabs case (refer here). The memo states that "the courts consistently have … considered whether plaintiff pleaded or proved scienter on the part of one or more members of senior management who bore sufficient responsibility for issuing the challenged statements, which could then be attributed to the corporation."

 

The authors suggest that none of the appellate cases have endorsed a "collective scienter" approach whereby plaintiffs may establish a claim against a corporation without naming any corporate officer or employee who acted with scienter – although the authors do labor to reconcile the dicta in Judge Posner’s opinion in the Seventh Circuit’s consideration of Tellabs with this overall analysis.

 

Finally, the authors conclude by suggesting that one of the recurring issues in this area is the fundamental question of what it means to "make" a statement, because it goes to the heart of the question of who made a statement for issue of potential securities liability. The authors suggest that the Supreme Court may well provide necessary guidance in its upcoming term on this issue in the Janus Capital Case, in which the Court recently granted a writ of certiorari (about which refer here).

 

European Corporate and Securities Developments: In light of the U.S. Supreme Court’s recent decision in the Morrison v. National Australia Bank case (about which refer here), narrowing the availability of U.S. courts to claimants who did not purchase their shares on U.S-based exchanges, there may be increased interest the regulatory and legal regimes outside the U.S. There are certainly relevant developments outside the U.S., particularly in Europe.

 

A July 2010 memorandum from the Sherman & Sterling law firm entitled "Governance & Securities Law Focus: Europe Edition" (here) takes a detailed look at corporate and securities developments at the EU level as well as at the level of certain individual countries (particularly Germany and the U.K.) The memo also includes a brief summary of key U.S. developments as well.

 

U.K. Bribery Bill: Regular readers know that a recurring theme on this blog is consideration of the question of the increasing liability exposure that companies may face under the Foreign Corrupt Practices Act. But the U.S. authorities’ enforcement of this statute is far from the sole regulatory effort to enforce anticorruption measures, as the German authorities’ pursuit of the Siemens case demonstrates.

 

In addition the U.K. recently substantially increased regulators’ statutory antibribery authority, and these changes have important implications, even for U.S.-based companies, according to a July 7, 2010 memo from the Reed Smith law firm entitled "What the U.K. Bribery Act Means for U.S. Companies" (here).

 

According to the memo’s authors, the Bribery Act 2010 , which has not yet come into force, "introduces important new offences which will apply to any business either based in the U.K. or which has some part of its operation in the U.K." and in "some important respects" will be "more far reaching than the FCPA."

 

Among other things, the FCPA requires at least one actor in the alleged bribery to have a role in the public sector, whereas the Bribery Act will "apply to acts of bribery which take place between two entirely private entities." The FCPA also has a statutory safe harbor for small "grease payments," but the Bribery Act has no such carve out. The Bribery Act also provide for significantly greater criminal penalties.

 

Pertinent to the question of corporate state of mind discussed above, the Bribery Act gets around the challenging question of corporate intent by making the new corporate offense described into a strict liability offense. Guilt can be a result of attempted or actual bribery a corporation’s "associated person." which seemingly includes not only employees and agents but anyone who provides services for the company.

 

As a result of this corporate strict liability, the activities of a U.S. company in any part of the world "could make it liable to a prosecution in the U.K. for this corporate offence if that U.S. company carries on some part of its business in the U.K. or for a principal bribery offence if some part of it is committed in the U.K."

 

The memo also addresses the question of the procedures that the Act requires, noting that "to avoid U.K criminal liability under the corporate offence introduced in the Bribery Act, it will be essential for U.S. companies which operate in the U.K. to put in place and to maintain clear and effective anti-bribery procedures over both their own staff and those who provide services to them."

 

Advisen Quarterly Securities Litigation Seminar: At 11:00 EDT on Friday, July 16, 2010, I will be participating in a free, one-hour webinar sponsored by Advisen to discuss 2Q2010 securities litigation trends. The panel will include my good friends Carl Metzger of the Goodwin Proctor law firm, Carol Zacharias of ACE, Louise Pennington of Integro and David Bradford of Advisen. Information about and registration instructions for the webinar can be found here.

 

On July 12, 2010, in one of the more high-profile investor actions filed as part of the subprime securities litigation wave, Southern District of New York Judge Sidney Stein substantially denied in part the defendants’ motions to dismiss in the Citigroup Bond Litigation. A copy of the opinion can be found here.

 

As detailed in greater detail here, Citigroup bondholders first filed their suits in September 2008 in connection with 48 different Citigroup bond offerings in which Citigroup raised over $71 billion between May 2006 and August 2008. (The first of these cases was filed in New York state court but later removed to federal court.) The defendants include the company itself and related corporate entities, as well 28 current or former Citigroup directors and officers and nearly eighty investment banks that served as offering underwriters in the bond offerings.

 

The plaintiffs, who purchased bonds in some of the offerings, alleged that the defendants had violated sections 11, 12 and 15 of the Securities Act of 1933 by failed to truthfully and fully disclose in the bond offering documents information concerning the company’s exposure to "toxic mortgage-linked documents."

 

Specifically, the plaintiffs alleged that Citigroup had failed to disclose Citigroup’s exposure to $66 billion worth of CDOs backed by subprime mortgage assets; Citigroup’s exposure to $100 billion in structured investment vehicles backed by subprime mortgage assets; that Citigroup "materially understated reserves" held for residential loan losses; Citigroup’s exposure to $11 billion of auction rate securities; that as result of these exposures, Citigroup was not, contrary to its representations, "well capitalized" and in fact required a massive government bailout.

 

In his July 12 order, Judge Stein first held that the plaintiffs had standing to assert claims in connection with all of the 48 offerings, even though plaintiffs had not purchased bonds in all offerings. Because the offerings were based common shelf registration document containing at least some common information, he found that the plaintiffs have standing to assert claims common to all purchasers.

 

But while he found that the plaintiffs has standing to assert Section 11 claims, he granted the defendants’ motions to dismiss the plaintiffs’ Section 12 for lack of standing, based on the insufficiency of plaintiffs’ allegations about whom the plaintiffs bought their investments from.

 

The centerpiece of the defendants’ dismissal motions was their argument that the plaintiffs had failed to allege any actionable misstatement or omission. Judge Stein found that that the plaintiffs’ had adequately alleged misrepresentation or omission as to Citigroup’s CDO exposure; with respect to plaintiffs’ allegations about Citigroup’s SIV exposure, at least with respect to statements made after those exposures were consolidated on Citigroup’s balance sheet; plaintiffs’ allegations about the adequacy of Citigroup’s residential mortgage loan loss reserves; with respect to Citigroup’s statements about the adequacy of its capitalization; and with respect to Citigroup’s statements that its financials were GAAP compliant.

 

However, Judge Stein also found that the plaintiffs had not sufficiently alleged misrepresentation or omission in connection with their allegations concerning Citigroup’s SIV exposure, at least those made prior to the consolidation of the SIV assets onto Citigroup’s financial statements; and about Citigroup’s exposure to auction rate securities.

 

Thus while a portion of plaintiffs’ claims did not survive defendants’ dismissal motions, a substantial portion of plaintiffs’ case will be going forward.

 

Both because of Citigroup’s prominence and because of the sheer magnitude of dollars involved in this case, this is a high profile decision. Though there is definitely a school of thought that defendants are faring better on the subprime securities cases in general, the plaintiffs are still managing to get some cases past the initial pleading hurdles, particularly in many of the highest profile cases (e.g., Countrywide, New Century, Washington Mutual, etc.).

 

In addition, Judge Stein’s decision in the Citigroup Bondholders case is the latest of several recent rulings in subprime related securities cases in the Southern District of New York that have favored the plaintiffs, including the recent decisions in the Ambac Financial subprime related case (about which refer here) and in the CIT Group subprime related securities case (about which refer here).

 

I have in any event added the July 12 decision in the Citigroup Bondholders’ suit to my running tally of subprime related securities class action lawsuit dismissal motion ruling, which can be accessed here.

 

Andrew Longstreth’s July 12, 2010 Am Law Litigation Daily article about the decision can be found here. A July 12, 2010 Bloomberg article about the decision can be found here.

 

Special thanks to a loyal reader for providing a copy of the opinion.

 

On July 2, 2010, in what is as far as I am aware the first suit by the FDIC against former directors and officers of a failed bank as part of the current wave of bank failures, the FDIC as receiver of IndyMac filed a lawsuit in the Central District of California against four former officers of IndyMac’s Homebuilder Division (HBD). 

 

Very special thanks to Peter Christensen of the Appraiser Law blog for providing links to the complaint.

 

The FDIC took control of IndyMac on July 11, 2008. At the time, the outstanding balance on HBD’s portfolio of homebuilder loans was nearly $900 million. The FDIC alleges in its complaint that IndyMac’s losses "are estimated to exceed $500 million."

 

The lawsuit is filed against Scott Van Dellen, HBD’s former President and CEO, who is alleged to have approved all of the loans that are the subject of the FDIC’s suit; Richard Koon, who was HBD’s Chief Lending Officer until mid-2006 and who is alleged to have approved at least 40 of the loans at issue; Kenneth Shellem, who served as HBD’s Chief Compliance Officer until late 2006, and who is alleged to have approved at least 57 of the loans at issue; ;and William Rothman, who served as HBD’s Chief Lending Officer from mid-2006 and who is alleged to have approved at least 34 of the loans at issue.

 

The lawsuit seeks to recover damages from the four individual defendants for "negligence and breach of fiduciary duties." The lawsuit alleges "two significant departures from safe and sound banking practices."

 

First, the complaint alleges that HBD’s management "repeatedly disregarded HBD’s credit policies and approved loans to borrowers who were not creditworthy and/or for projects that provided insufficient collateral." The complaint further alleges that HBD’s compensation plans encouraged HBD’s management to "push for growth in loan production volume with little regard for credit quality."

 

Second, HBD’s management is alleged to have "continued to follow a strategy for growth at the tail-end of the longest appreciating real estate market in over four decades," despite management’s alleged "awareness that a significant downturn in the market was imminent and despite warnings from IndyMac’s upper management about the likelihood of a market decline." HBD’s management allegedly "unwisely continued operations in homebuilder lending in deteriorating markets even after becoming aware of the market decline.

 

The FDIC’s complaint, which sprawls to some 309 pages, details a litany of allegedly negligent lending practices, including approving loans where repayment sources were not likely to be sufficient; where the loans violated applicable laws and the Bank’s own internal policies; where the loans were made to borrowers who "were or should have been known to be not creditworthy and/or in financial distress; based on inadequate or inaccurate financial information; without taking proper and reasonable steps to insure that the loan proceeds would be used in accordance with the loan application.

 

The complaint is very detailed and reflects painstaking preparation. A lot of time and effort went into the preparation of this complaint, which may in and of itself explain why the FDIC has not up until this point filed other complaints against directors and officers of failed banks. If the FDIC is taking similar measures in connection with other claims that it might be considering, it is little wonder that there have been no claims up until this point. Complaints containing this level of specificity and painstaking detail will take a significant amount of time to prepare.

 

There are some particular reason why IndyMac attracted one of the first claims. First, the FDIC took control of IndyMac relatively early in the current round of bank failures – it has been almost exactly two years since IndyMac closed, meaning the FDIC has had a greater amount of time to review the circumstances that led up to IndyMac’s failure and consider potential claims. When the FDIC took control of IndyMac, it was only the fifth bank failure that year, meaning that IndyMac was among the earliest of the current bank failures.

 

But perhaps even more important that its timing was the sheer size of IndyMac’s failure. At the time of its closure, IndyMac had assets of about $32 billion, making its closure the second largest bank failure during the current wave of bank failures (exceeded only by the closure of Washington Mutual, which had assets of $307 billion).

 

More to the point, IndyMac’s failure triggered losses to the FDIC’s insurance fund of $8 billion, by far the largest amount of any bank failure during the current round. The magnitude of these losses suggests possible motivations for the FDIC to give priority to claims relating to IndyMac.

 

While the recently filed IndyMac claim may be the first claim the FDIC has filed against former directors and officers of a failed bank as part of the current bank failure wave, it is surely not the last. (Indeed, it may not even be the last filed against former IndyMac officials.) Statistics reported by the Alston & Bird firm suggest that during the last wave of bank failures in the S&L crisis, the FDIC filed claims in connection with about 24% of all bank failures.

 

The fact that the FDIC appears poised to pursue many additional claims against bank officials represents a threat both to the individuals themselves and to the bank’s D&O liability insurers. The extent to which the FDIC’s efforts result in significant recoveries will depend on a wide variety of factors, the most important of which is the extent to which the FDIC can successfully allege individual liability. But beyond that, the FDIC’s ability to actually recover money will depend on identifying and accessing funding sources.

 

The extent to which the FDIC will succeed in recovering substantial amounts of D&O insurance will depend on a host of factors, including in particular the terms and conditions of the applicable policies. Claims made and notice of claims issues will be highly relevant, as will potential policy exclusions, such as, for example, the regulatory exclusion, which insurers added to many policies in recent years. These insurance coverage questions suggest the likelihood that in addition to a round of claims against former officials of failed banks, we are also likely to see a parallel round of insurance coverage litigation.

 

In addition to the FDIC’s recent action, there has also been extensive litigation involving IndyMac’s shareholders, as detailed here. Most recently, on March 29, 2010, Central District of California Judge George Wu certified an interlocutory appeal to the Ninth Circuit of his denial of the defendants’ motion to dismiss the plaintiffs’ sixth amended complaint.

 

Bank Failure Wave Continues: Meanwhile, while the FDIC cranks up its litigation efforts, it is continuing to take control of additional banking institutions. This past Friday evening, July 9, 2010, the FDIC took control of four additional banks, bringing the 2010 total number of failed banks to 90.

 

Through June 30, 2010, the FDIC had closed 86 banks, which put the FDIC on pace to close 172 banks this year, compared to 140 in 2009 and only 25 in 2008. Indeed, by way of comparison, as of June 30, 2009, the FDIC had closed only 40 banks, as the pace of bank failures quickened substantially in the second half of 2009 and continued into 2010.

 

Suit Against Auction Rate Securities Investor Dismissed: When plaintiff investors first sued Mind M.T.I. and certain of its directors and officers in the Southern District of New York in August 2009, I noted at the time that the new suit seemed to reflect two securities class action lawsuit filing trends: first, the case presented an example of a "belated" lawsuit filing, where the initial filing came more than a year after the proposed lawsuit date; and second, the case represented another instance where a company’s shareholders had filed suit due to their company’s investment auction rate securities.

 

The case, however, failed to surmount initial pleading thresholds, and July 2, 2010 was dismissed with prejudice.

 

Unlike many auction rate securities cases, which typically were brought against the firm that had sold the plaintiffs the securities, this suit (like others, refer here) was brought against a company that had invested in the auction rate securities.

 

The lawsuit pertained to the company’s 2006 purchase of $22.8 million in auction rate securities. The securities the company purchased were issued by the now-infamous Mantoloking CDO, about which refer here.

 

The plaintiffs alleged that the defendants "knowingly and recklessly concealed that most of Mind’s reported cash position was comprised of illiquid Auction Rate Securities (ARS)" and that the company’s internal controls for monitoring, accounting and reporting of the Company’s investments in cash equivalents and/or short-term investments were materially deficient." The defendants moved to dismiss on the grounds that plaintiffs’ had not sufficiently pled scienter.

 

In a July 2, 2010 order (here), Southern District of New York Judge Richard M. Berman, granted the defendants’ motion to dismiss with prejudice, holding that the plaintiffs had failed to allege sufficient facts showing a motive and opportunity for the fraud, and also had failed to alleged facts sufficient to constitute strong circumstantial evidence of conscious misbehavior or recklessness.

 

In concluding that the plaintiffs had not sufficiently alleged scienter, the court noted that the defendants had argued that the company "rather than acting with scienter, was itself defrauded by its investment bankers into believing its investment was a safe, liquid alternative to bank deposits." Judge Berman found that the plaintiffs allegation do not offer any factual explanation in contradiction of this contention. According, he concluded that the plaintiff had failed to raise an inference of scienter that is cogent and at least as compelling as any opposing inference of nonfraudulent intent.

 

After the marketplace for auction rate securities froze in February 2008, plaintiffs’ lawyers launched a barrage of lawsuits against the investment banks and other firms that had sold investors these securities. By and large, these cases against the auction rate securities have fared poorly, particularly with respect to the financial firms that separately entered regulatory settlements intended to provide small investors relief regarding their illiquid securities investments.

 

For example, the securities suit filed on behalf of auction rate securities investors against UBS, which had entered into a auction rate securities-related regulatory settlement was initially dismissed with prejudice. After the plaintiffs amended their pleading, the court granted the defendants’ renewed dismissal motion but allowed the plaintiffs leave to attempt to further amend their pleadings. However, on July 7, 2010, after the plaintiffs failed to file further amendments within the allotted time, the court entered judgment on behalf of the defendants.

 

The poor track record in the auction rate securities cases has not been limited just to companies that had entered regulatory settlements, as was demonstrated, for example, in the dismissal granted in auction rate securities suit filed against Raymond James (about which refer here).

 

Similarly, the dismissal granted on the Merrill Lynch auction rate securities suit in March 2010 (about which refer here) did not depend on Merrill’s entry into a regulatory settlement, but was on the merits.

 

But the suits filed against the financial firms that had sold the auction rate securities represented only one type of auction rate securities lawsuit. In addition, there were a number of suits filed against the companies that had purchased the securities, in which it was alleged that the companies had misrepresented the companies’ financial condition by failing to disclose its investment. The dismissal of the Mind C.T.I. suggests that these suits against auction rate investors may fare not better than the many suits filed against the auction rate securities investors.

 

2010 Securities Suit Filings at the Year’s Midpoint: In a publication issued this past week, Charles River Associates issued its review of the Second Quarter 2010 securities lawsuit filings, including an analysis of the 2010 filings for the first half of the year. Though different in some details, the Charles River report is directly consistent with the observations noted on my recent post (here) on first half filings.

 

Among other things, the report notes that though second quarter 2010 filings were up 25% compared to the second quarter of 2009, the filings in the first half of 2010 were down 9% compared to the first half of 2009, and down 38% compared to the first half of 2008.

 

The report also notes that though the second quarter filings involved companies in a wide range of industries, the filings were "primarily concentrated in the financial services and oil and gas sectors." The report also notes that a number of the second quarter filings involved class periods that ended more than a year prior.

 

Special thanks to Christopher Noe of Charles River for providing a copy of the report.

 

The Dodd-Frank Bill and Securities Litigation: If the Dodd-Frank Wall Street Reform and Consumer Protection Act is finally enacted into law, we can all look forward to months of commentaries beginning like this: "A little noticed provision of the financial reform legislation may have unexpected implications." The sheer sweep of the Bill’s 2,500-plus pages and countless provisions virtually ensures that for months and years the legislation will be slowly revealing sometimes unexpected implications.

 

Among many other subjects that the Bill touches upon is securities litigation. Though the Bill does not reach as far as it initially appeared it might, the Bill does contain a number of provisions with securities litigation implications. These implications are helpfully catalogued in a couple of recent law firm memos.

 

First, in a July 9, 2010 article entitled "The Impact of Financial Reform on Securities Litigation Enforcement" and posted on the Harvard Law School Forum on Corporate Governance and Financial Regulation blog (here), several attorneys from the Wachtell Lipton firm catalogue the Bill’s various provisions.

 

Second, in a July 9, 2010 memo entitled "Securities Litigation Implications of the Dodd-Frank Bill," the Paul Weiss firm takes a look at the Bill’s securities litigation provisions and also review the various additional proposed provisions that did not make it into the Bill’s final version.

 

Finally, a July 6, 2010 memo by the Katten Muchin law firm entitled "Dodd-Frank Wall Street Reform and Consumer Protection Act Corporate Governance and Disclosure Provisions" reviews the Bill’s various provisions relating to corporate governance and disclosure practices.

 

These memos are detailed and helpful. Just the same, the massive Bill seem likely to have yet other sections that may involved undiscovered implications that will only be revealed in the fullness of time.

 

World Cup Final Notes:

1. I agree with my sixteen year old son’s assessment — I am sorry the World Cup is over. Notwithstanding those damn vuvuzelas.

 

2. The Spaniards should be proud, they scored and they won. Iker Casillas, Spain’s goalie, played just well enough to allow his team to win. But truth be told, the tournament’s final match was not a very good game. It was marred by unnecessary violance and poor sportsmanship, not to mention astonishing failures by both teams to capitalize on scoring opportunities.

 

3. The consolation round game on Saturday was a much better game, which I am very glad I watched. It was an exciting, fair match well played by both Uraguay and Germany. And it literally came down to the last tick of the clock. A great game all the way around.

 

4  I aboslutely concur in the award of the golden ball to Diego Forlan of Uraguay. He had a great tournament and he is an exciting player to watch. Rumors that he is about to sign with the Miami Heat apparently are totally unfounded.

 

In a June 30, 2010 opinion (here), a three-judge panel of the Second Circuit reversed the lower court’s ruling that coverage under a directors and officers liability insurance policy for an underlying claim was precluded by the policy’s "insured vs. insured" exclusion, holding that the D&O policy at issue was "ambiguous" under Virginia law.

 

Background

Prior to May 2004, Community Research Associates, an Illinois corporation, was controlled by three shareholders, referred to in the coverage action as the Legacy Shareholders. In May 2004, CRA was reorganized as a Delaware corporation as part of a stock purchase agreement by which Sterling Investment Partners became the majority shareholder, and the Legacy Shareholders became minority shareholders. The pre-transaction entity was referred to in the coverage litigation as CRA-Illinois and post-transaction entity was referred to as CRA-Delaware.

 

The May 2004 transaction contemplated several events occurring simultaneously at the time of the transaction closing. Among other things, the Legacy Shareholders were to assume positions as officers or directors of CRA-Delaware in order to sign the paperwork to complete the reorganization plan. In addition, as a condition of closing, the Legacy Shareholders were required to resign their positions as directors of CRA-Delaware in order to close the merger.

 

In October 2004, CRA-Delaware purchased D&O Insurance policy. In its application for insurance, CRA-Delaware stated, among other things:

 

On May 3, 2004, the company had a merger with an investment entity. A new Chairman and Chief Executive Officer was installed. The prior ownership remained in a minority capacity but were no longer participants on the Board or officers of the corporation. On August 2, 2004 a new Chief Financial Officer was hired.

　

In August 2005, CRA-Delaware approved a merger whereby all of CRA-Delaware’s stock was sold to a third-party, CRA Acquisitions Corp. The Legacy Shareholders filed a lawsuit against certain directors and officers of CRA-Delaware, alleging a breach of fiduciary duty in connection with the August 2005 merger. The breach of fiduciary duty action ultimately settled for $3 million.

 

The CRA-Delaware directors who were sued in the breach of fiduciary duty action filed a claim under the company’s D&O insurance policy for the losses incurred in connection with the claim. The D&O insurer denied coverage for the claim in reliance on the policy’s "insured vs. insured" exclusion, and coverage litigation ensued.

 

The district court in the coverage action granted the carrier’s motion for summary judgment, holding that the "insured vs. insured" exclusion was unambiguous and that because the Legacy Shareholders were all former directors and officers of CRA-Delaware, having assumed those roles briefly in order to effectuate the merger, the losses from their claim fell within the Policy’s exclusion.

 

The Second Circuit’s Opinion

The Second Circuit first found that when the district court had concluded that the Legacy Shareholders "briefly assumed" the role of directors of CRA-Delaware in order to effectuate the merger, the district court "assumed[ed] the answer without addressing the parties’ argument."

 

The coverage claimants argued that CRA-Delaware "did not exist as an entity until after the closing of the merger." The Second Circuit said that "at the very least, the question should have gone to a jury to determine whether CRA-Delaware existed prior to the merger or, if it did, whether it was the same entity that existed after the merger for purposes of policy coverage."

 

In reaching this conclusion the Second Circuit, referenced CRA-Delaware’s policy application, which was attached to and, by the Policy’s terms, incorporated into the policy. The Second Circuit found that the application, which the Court emphasized was part of the policy, described the May 2004 transaction in a way that raised these questions about when CRA-Delaware came into existence, and in particular about whether the Legacy Shareholders were ever officers or directors of CRA-Delaware as such.

 

Citing Virginia law, the Second Circuit held that "the Policy, when read in its entirety, can reasonably be ‘understood in more than one way’ and is thus ambiguous." Both of the parties’ interpretations of when CRA-Delaware came into existence "rely only on language of the Policy and are reasonable in light of the various provisions of the Policy."

 

Accordingly, the Second Circuit remanded the case to the district court "to undertake any additional fact finding to interpret the Policy provisions in light of the facts to be found."

 

Discussion

At first impression, this case is a bit of head-scratcher, since the record does seem to suggest that the Legacy Shareholders were briefly directors of CRA-Delaware in order to effectuate the merger, which is exactly what the district court found.

 

On further reflection, however, the question may not be quite as straightforward as the first impression might suggest. There is a question about exactly when CRA-Delaware first came into existence, and whether the Legacy Shareholders were ever directors of CRA-Delaware when it came into existence. The application itself, which was incorporated in to the policy, seemingly suggests that the Legacy Shareholders were not officers or directors of CRA-Delaware as such.

 

Significantly, the Second Circuit did not affirmatively say that there was coverage here under the D&O policy, only that further findings of fact were required before it could be determined whether or not the insured vs. insured exclusion applied.

 

At some level, this coverage dispute may simply be a reflection of a very specific and arguably unique set of facts. However, the parties’ dispute is a reminder of the complexities that can sometimes arise in connection with the application of the "insured vs. insured" exclusion, which is frequently the source of contentious coverage issues.

 

That said, I don’t think the Second Circuit was saying the insured vs. insured clause in and of itself was ambiguous. Rather, the finding of ambiguity turned on the fact that the policy application was incorporated into the Policy – that is, by the Policy’s terms, the application was a part of the policy. The finding of ambiguity related to the interaction between the application as part of the policy and the insured vs. insured exclusion. In essence, the Second Circuit said that because of the ambiguous relation between these two parts of the policy, further fact finding is required.

 

My prior posts on the Insured vs. Insured exclusion can be found here and here.

.

In the latest appellate decision to affirm the dismissal of a subprime-related securities class action lawsuit, on June 29, 2010, a three-judge panel of the Ninth Circuit issued an opinion (designated "not for publication") affirming the dismissal of the securities suit that had been filed against Impac Mortgage Holdings and certain of its directors and officers.

 

As discussed in greater detail here, investors first filed their suit in August 2007, alleging that contrary to Impac’s representations the company’s Alt-A loans were being sold to less creditworthy borrowers, so that the loan portfolio was experiencing the same risks and discounts in securitization as sub-prime mortgages.

 

The plaintiffs alleged further that the defendants deceived investors by representing that Impac’s underwriting guidelines were strict and that its loans were high-quality, which in fact the executives were overriding the underwriting guidelines to originate and purchase poor-quality loans.

 

In a March 9, 2009 order (here), Central District of California Judge Andrew Guilford granted with prejudice the defendants’ motion to dismiss the plaintiffs’ Third Amended Complaint, and the plaintiffs appealed. My prior post about the district court proceedings can be found here.

 

In the Ninth Circuit’s June 29 opinion affirming the district courts dismissal, the panel found that the plaintiffs had "stated insufficient facts to create a strong inference of scienter." The panel found that none of the plaintiffs’ allegations taken individually "describe any underwriting-guideline violations or tie those violations to the class period with the ‘great detail’ required to give rise to a strong inferences of scienter."

 

Taking the plaintiffs allegations as a whole, the panel concluded that "the inference that the defendants intended to deceive investors is still less compelling than a competing inference of non-fraudulent intent." The court went on to observe that "at bottom, a non-fraudulent inference – namely that Impact’s efforts to minimize risk exposure in the mortgage industry came too late to avoid large losses – is more compelling than an inference that Impac’s officers intended to defraud investors by falsely claiming to tighten its underwriting guidelines."

 

The Ninth Circuit’s opinion in the Impac case is the third appellate decision issued in connection with the subprime and credit crisis-related litigation wave, joining the Second Circuit’s decision in the Centerline case (about which refer here) and the Eighth Circuit’s decision in the NovaStar case (about which refer here). In each of these decisions, the appellate courts have affirmed the lower court’s dismissal of the complaint.

 

While three cases represents far too small of a data set to draw any conclusions, at least so far it seems that plaintiffs have not been rewarded for appealing the lower court dismissals.

 

I was somewhat curious about the significance of the fact that the Ninth Circuit’s opinion was designated "not for publication." Although I have never been able to figure out why Courts bother with that sort of thing in this day and age (obviously it is public so why bother with the designation), it is clear that the Ninth Circuit cannot bar participants from referencing the case, as Federal Rule of Appellate Procedure 32.1 expressly provides that courts may not "prohibit or restrict" the citation to appellate opinions by designating them as, for example, "not for publication." So why bother designating an opinion as not for publication?

 

In any event, I have adjusted my running tally of subprime related case dispositions (which can be accessed here) to reflect the appellate decision in the Impac case.

 

While there were a number of significant, high-profile securities class action lawsuits filed during the first-half of 2010, overall filing levels for the year’s first six months, annualized for a full year, were well below last year’s filings and historical averages.

 

In the first half of 2010, there were 76 new securities class action lawsuits. This figure, if annualized, would mean 152 new securities class action lawsuits for the year, which is below the 169 that were filed in 2009, and about 29% below the 1997-2008 average of 197 filing per year.

 

The lawsuits were filed against companies in 41 different SIC Code categories, although as has been the case for the past several years, the first six months’ filings were again weighted toward the financial sector. 13 of the 72 first half filings were in the 6000 SIC Code category (Finance, Insurance and Real Estate), and another ten filings were against entities that lacked SIC Codes that were all financially related. This total of 23 first half filings against financially related filings represents 32% of the filings in the first six months.

 

Among these lawsuits filed against financially related targets were six new lawsuits filed against Exchange Traded Funds and six lawsuits filed against commercial banks. The filings against the ETFs is a trend that began in the second half of 2009. The suits filed against the commercial banks reflect in part the wave of bank failures that has been sweeping across the sector.

 

As in the past, life sciences companies also continue to be targeted. There were 7 lawsuits filed in the first half against companies in the 283 SIC Code group (Drugs) and 5 against companies in the 384 SIC Code group (Surgical, Medical and Dental Instruments and Supplies). These 12 lawsuits represent 16.6% of the first half filings.

 

In recent years, filings against foreign-domiciled companies have been an important part of total filings. For example, in 2008, lawsuits against companies from outside the U.S. represented 15% of all filings, and in 2009 they were 12.7% of all filings. However, so far in 2010, there have been relatively fewer securities suits filed against foreign companies. Four of the first half lawsuits were filed against foreign companies, representing only about 5.18% of the suits filed.

 

Even if, as I have speculated might be the case, the Supreme Court’s ruling in the Morrison v. National Australia Bank case might have the effect of discouraging suits against foreign domiciled companies (particularly those whose shares do not trade on U.S. exchanges), it already seems that filings against foreign domiciled companies are now a relatively less significant part of all filings than they have been in recent years.

 

The first half lawsuits were filed in 31 different federal district courts, although a significant number of the lawsuits were filed in the S.D.N.Y. There were 21 new securities class action lawsuits filed in the Southern District of New York in the first half of 2010, largely as a result of the concentration of cases filed against companies in the financial sector. The district court with the second most number of first half filings was the District of Massachusetts, which had four.

 

As I noted last year, there has been an increase in what I have described as "belated filings" – that is, new lawsuits where there is a gap between the proposed class period cutoff date of a year or more. By my count there were 14 of these belated cases filed in the first half, and they continued to be filed as the period progressed. It will be interesting to see what impact, if any, the Supreme Court’s statute of limitations ruling the Merck case (about which here) will have on the continued filing of these belated cases.

 

The subprime litigation wave began in early 2007. Though it is now in its fourth year, the subprime related and credit crisis related cases continue to come in. By my count, there were 13 subprime and credit crisis related lawsuits filed in the first half of 2010, many of them (such as the securities lawsuit filed against Goldman Sachs) related to mortgage securitizations that went bad. For a listing of the subprime and credit crisis related securities suits, including those filed in 2010, refer here.

 

As I have noted elsewhere, the plaintiffs have seemed particularly interested in pursuing claims in the wake of headline crises that various companies have suffered. Indeed, the Deepwater Horizon oil spill alone has generated securities class action lawsuits against BP, Transocean, and Anadarako. Other headline related securities suits in the first half include those filed against Goldman Sachs, Massey Energy and Toyota.

 

Though the number of new securities class action lawsuits are relatively down compared to historical levels, that does not necessarily mean that overall claims activity has declined. Indeed, analysis by Advisen (refer here) suggests that securities class action lawsuits represent an increasingly smaller percentage of all claims, a trend that began in 2006 and that increased in the first half of 2010.

 

In addition to the securities class action lawsuits, claimants are filing individual lawsuits (rather than class actions), a phenomenon that has been particularly evident with respect to many of the subprime and credit crisis-related claims. Claimants are also filing shareholders derivative suits or otherwise proceeding on different theories.

 

But this diversification notwithstanding, it is evident that securities class action filings were down in the first half of 2010, relative to historical levels, as they have been since about the second quarter of 2009.