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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

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

 

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

 

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

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

 

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

 

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

 

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

 

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

 

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

 

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

 

Will More Senior Officials Get Dragged In?:

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

 

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

 

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

 

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

 

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

 

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

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

 

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

　

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

 

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

　

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

Discussion

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

 

 

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

 

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

 

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

 

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

 

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

 

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

 

The Report’s Conclusions

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

 

Reader Advisory: Terminology Matters!

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

Discussion

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

　

　

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

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

 

Here are the four cases, in chronological order:

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

Discussion

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

　

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

Discussion

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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