Photobucket - Video and Image Hosting The Ohio Attorney General, Marc Dann, issued a March 7, 2007 press release (here) announcing a $144 million net settlement in the opt-out action filed against the Time Warner defendants on behalf of the Ohio Bureau of Workers’ Compensation and five state pension funds. As explained further below, the gross amount of the settlement is $175 million.

According to news reports (here), the net settlement proceeds will be distributed as follows: State Teachers Retirement System of Ohio, $66.5 million; Ohio Public Employees Retirement System (OPERS), $62.3 million; Ohio Bureau of Workers’ Compensation, $8 million; Ohio Police and Fire Retirement System, $4.1 million; School Employees Retirement System of Ohio, $2.5 million; and Ohio Highway Patrol Retirement System, $290,778. Hat tip to the Best in Class blog (here) for the settlement proceeds distribution.

Dann stated in the press release that the settlement “will yield $135 million more than the pension funds would have received had we remained a party to the class action suit.” In other words, Ohio’s net recovery in the opt-out settlement represents 16 times more than the $9 million Ohio believes it would have recovered from the class settlement. Ohio’s net recovery of $144 million represents 36% of its estimated $400 million investment loss.

The decision to opt-out from the Time Warner class action settlement had actually been made by Dann’s predecessor, Republican Jim Petro. (Dann, a Democrat, was sworn in as AG on January 7, 2007.) At the time of the opt-out decision, Petro said (here) explaining his decision to opt-out, “the class action suit, you get peanuts at the end of it.” In an unusual gesture, Dann went out of his way in the press release to praise his Republican predecessor: “Jim Petro did the right thing by opting out of the class action. His decision put me in a very strong negotiating position.”

Ohio was represented in its opt-out action by the Lerach Coughlin firm and the Cleveland law firm of Benesch, Friedlander, Coplan & Aronoff. According to news reports (here), the $144 million is Ohio’s net recovery from a gross settlement of $175 million. The remaining $31 million will pay expenses and attorneys. Petro had agreed to a 17.5% contingency fee to Lerach Coughlin and hourly compensation to Benesch. Dann said he negotiated the Lerach Coughlin fee down by $3 million and that firm agreed to pay Benesch from its contingency fee. Dann said this was a signal to other future outside counsel that he “will drive a harder bargain in the future.” (I guess the plaintiffs’ bar has been warned; let that $31 million be a lesson.)

A couple of things about Dann’s press release strike me as particularly troublesome. The first is the grandstanding tone. For example, Dann is quoted as saying “Today, we are sending a loud and clear message to corporate American and to Wall Street: we will not tolerate fraud, stock manipulation, or deceit in this state.” There is much more in a similar vein that I cannot bring myself to quote here. Dann clearly felt comfortable mining this settlement for political capital. If other state or local politicians perceive that they might be able to use opt-out settlements to buff up their images as protectors of the little guy and scourges of corporate fat cats, watch out. Given Dann’s comments about attorneys’ fees and sending messages for future cases, he anticipates that there will be a next time.

The other troublesome note is the care Dann’s press release takes to validate the Ohio settlement among the other recently announced opt-out settlements: “Mr. Dann said the amount of the settlement is proportionate to or greater than those reached by plaintiffs who have filed and settled similar cases against AOL/Time Warner.” A March 8, 2007 issue of the Cleveland Plain Dealer quotes Bill Lerach (here) as saying that Dann would not settle for anything less than the 36 percent of investment loss that the University of California (also represented by Lerach) recovered in its separate opt-out action. Clearly, there is some benchmarking going on in the Time Warner opt out cases, which undoubtedly will weigh on remaining settlement negotiations in other Time Warner opt out cases. The greater concern is that some kind of universal standards are being set that could affect negotiations in other cases, or future cases.

In any event, the $175 million Ohio gross settlement, taken together with the gross amounts of the other previously announced Time Warner opt-out settlements (refer here), brings the total value of the publicly announced Time Warner opt-out settlements to $730 million. Based on the information on the Stanford Law School Class Action Clearinghouse website (here), a class action settlement of $730 million would rank as the ninth larges class action settlement ever. The aggregate attorneys’ fees (which by the way do not have to approved by a court) undoubtedly are similarly staggering. Settlements (and attorneys’ fees) of this magnitude obviously will attract keen interest in opting-out as a securities lawsuit strategy, particularly if others share the view of Ohio’s former Attorney General that a class action settlement only gets you “peanuts.”

The Cleveland Plain Dealer (here) reports that negotiations on the Ohio settlement began on February 27, with Time Warner’s attorneys offering $30 million, and by the following afternoon the parties had reached the $175 million deal. Time Warner was represented by Cravath Swaine & Moore (which Dann called “a fancy New York law firm) and Jones Day. The settlement does not resolve the state’s case against Ernst & Young, AOL’s accountant.

Oxley Surveys His Work: Speaking of retired Ohio Republicans, Michael Oxley , as reported in the March 2, 2007 International Herald Tribune interview (here), while addressing at a conference of 200 accountants in Paris, had some choice words to say about his best known legislative legacy, the eponymous Sarbanes Oxley Act. Among other things, Oxley, in repsonse to questions about the statute’s impact, acknowledged that if he knew then what he knows now, “I would have written it differently and [Sarbanes] would have written it differently.”

Oxley went on to explain that the statute was not the product of “normal times.” He says that “Everybody felt like Rome was burning. People felt like they were getting cheated. It was unlike anything I had ever seen in Congress in 25 years in terms of the heat from the body politic. And all the members were facing it.” Oxley now says that he felt at the time that Section 404 could spell trouble, but said that with the pressure on the Bush administration, there was no question that a bill needed to be passed, however imperfect.

Oxley also said that the decision to prosecute Arthur Andserson was a “White House decision.” The Bush administration made the decision to “give the death penalty to Arthur Anderson” because “they had to look really tough.” Oxley says now that “virtually anyone would agree it was a terrible decision” because it “eliminated a major accounting firm” and sent a chill through the accounting industry, causing accountants to revert to “extremely conservative practice.”

Hat tip to Houston’s Clear Thinkers blog (here) for the link to the Oxley article.

Mow Down The Laws Just to Get the Devil?: Oxley’s frank acknowledgement that Arthur Anderson was sacrificed for mere political effect has made me reflective. The politicians feel they must protect us from the fraudsters, or, rather, that they must be seen as protecting us from the fraudsters, but who protects us from the politicians?
Photobucket - Video and Image Hosting This all reminds me of one of the scenes in A Man for All Seasons , the play based on the life of Thomas More, the 16th Century English chancellor and author. In the scene, More’s wife Alice, and his son-in-law William Roper, urge More to arrest an informer who had sought to curry favor with More by providing information (this excerpt taken from the complete text of the play, which may be found here ) :

ALICE: While you talk, he’s gone!

MORE: And go he should, if he was the Devil himself, until he broke the law!

ROPER: So now you’d give the Devil benefit of law!

MORE: Yes. What would you do? Cut a great road through the law to get after the Devil?

ROPER: I’d cut down every law in England to do that!

MORE: Oh? And when the last law was down, and the Devil turned round on you –where would you hide, Roper, the laws all being flat? This country’s planted thick with laws from coast to coast — man’s laws, not God’s — and if you cut them down –and you’re just the man to do it — d’you really think you could stand upright in the winds that would blow then? Yes, I’d give the Devil benefit of law, for my own safety’s sake.

In the latest issue of InSights (here), I take a look at the Tellabs case now pending before the U.S. Supreme Court and discuss why the outcome of the case will matter. As noted at greater length in the article, the case “has the potential to significantly alter the securities litigation landscape for public companies and their directors and officers.”

Photobucket - Video and Image Hosting With a conscious nod to London’s Alternative Investment Market (AIM), Pink Sheets LLC has launched a new designation called OTCQX for domestic and international companies that meet certain criteria. In a March 5, 2007 press release (here), Pink Sheets announced that it had launched the designation for “reputable operating companies that wish to create enhanced visibility and respectability with investors.”

Pink Sheets is an electronic quotation system and not a stock exchange. It has no listing standards, nor do its companies have to register with the SEC. According to a March 6, 2007 Wall Street Journal article entitled “Pink Sheets Tries to Spiff Up Its Image” (here, subscription required) there are about 8,200 stocks quoted on the Pink Sheets and the OTC markets combined. Of these, 600 are foreign shares. Many of the companies “are speculative” and “some are distressed.” Some of the shares can go weeks or months without any trading, creating liquidity concerns. A Wikipedia article providing background on Pink Sheets can be found here.

The new Pink Sheets designation is intended as a “simple listing process that allows trusted companies to efficiently distinguish themselves.” So far 3 U.S. companies and 3 non-U.S. companies have qualified, and Pink Sheets says that it is “processing applications from 20 additional companies.”

The new designation is available for U.S. companies “with ongoing business operations that have professional advisors and provide credible disclosure,” including annual GAAP audited financial statements. The International designation is available for non-U.S. based companies “listed on a qualified international stock exchange that makes their home country disclosures available in English to U.S. investors.”

All companies seeking the new designation must have professional advisors. U.S. based companies must nominate a “Designated Advisor for Disclosure” (DAD) and each non-U.S. based company must nominate a “Principal American Liaison.” (PAL) prior to being accepted for the designation. According to Pink Sheets’ press release, the DAD and PAL designations are modeled on AIM’s Nominated Advisors (NOMAD). These advisors role is designed to “bolster investor confidence in the quality and availability of issuer disclosure.”

The new Pink Sheets designation, with its DAD and PAL advisors, is a clear effort to emulate the AIM and perhaps to replicate some of its success. However, Pink Sheets labors under a couple of handicaps that will challenge its efforts to compete with AIM. First, unlike AIM, which is affiliated with and supported by the London Stock Exchange, Pink Sheets is not affiliated with any exchange. AIM enjoys reflected prestige of its well-respected parent. Pink Sheets has only its own reputation, such as it is.

Even though AIM itself has had a rash of recent investigations (refer here), its reputation remains more or less solid. Pink Sheets, by contrast has a legacy that has caused the SEC to post on its website (here) strong warnings about the listing service, stating, among other things, “companies quoted on the Pink Sheets can be among the most risky investments” and “you should take extra care to thoroughly research any company quoted exclusively on the Pink Sheets (emphasis in original).”

But these concerns notwithstanding, Pink Sheets’ attempt to copy the successful elements of the AIM is one of the more economically rational responses to the competitive challenge that the AIM poses for U.S. financial markets. Pink Sheets may have a very long way to go before it presents serious competition to the AIM, but it has made a start, and its attempt to renovate itself to offer an alternative to AIM is preferable to the would-be reformers efforts to reduce the mainstream exchanges’ regulatory standards as a response to AIM’s competition.

All of that said, the regrettable DAD and PAL advisor designations are too cute to take seriously. Those features were better left on the cutting room floor.

Now This: According to The Economist magazine (here, subscription required) the new generation of container ships are being built to enormous proportions. The Emma Maersk, which is the largest container ship ever built, can carry 11,000 20-foot containers (1,400 more than any other ship can carry). A train carrying that load would be 44 miles long! Its engine has as much power as 1,200 automobiles and its anchor “weighs as much as five african elephants.” Yet, according to Wikipedia (here), its normal crew is only 13 people. That’s a little scary now, isn’t it?

These mega-ships are too large for the Panama canal. Ships that fit the dimensions of the Panama canal are known as Panamax. (The new mega vessals are known as “Post-Panamax,”and the canal will soon be modified to accomodate them.) To picture what it means for the Panama canal to have vessels designed to maximize its capacity, view this timelapse video of the canal in operation. This is solid visual evidence of what global oceanborne trade really means. (You think your job is complicated…)

In the securities fraud lawsuit arising out of the Comverse Technology options backdating scandal, a federal district judge, applying principles derived from the Supreme Court’s 2005 decision in the Dura case, has overturned a magistrate judge’s lead plaintiff ruling, resulting in the Lerach Coughlin firm’s removal lead counsel in the case. (The background on the case can be found here.) The district judge’s ruling is interesting and potentially significant because of its implications about the factual determinations a district court must make under the Private Securities Litigation Reform Act (PSLRA) at the earliest stages of the case.

Judge Nicholas Garaufis had referred the lead counsel motions to the Magistrate Judge Ramon Reyes. Reyes selected the Plumbers and Pipefitters National Pension Fund (“P & P”), represented by the Lerach Coughlin firm, as lead plaintiff. Plaintiffs The Menorah Insurance Co. Ltd. and Mivtachim Pension Funds Ltd. (together, the “Menorah Group”) represented by the Pomerantz Haudek Block Grossman & Gross law firm, objected to the Magistrate Judge’s ruling and appealed to the district court.

Reyes had found that P & P had purchased 534,471 shares that resulted in losses of approximately $2.9 million, exceeding the Menorah Group’s claimed loss of $343,242 on its 172,000 shares. Because Reyes determined that P & P had the greatest financial interest in the outcome of the case, he selected P & P as lead plaintiff.

The Menorah Group based its objection on the fact that most of P & P’s losses resulted from “in and out transactions,” in that both the purchase and the sale of the shares took place before the alleged misrepresentations were disclosed. The Menorah Group argued that if the “in and out” shares were excluded, P & P did not suffer a $2.9 million loss, but instead actually realized a $132,722 gain. Judge Garaufis agreed, vacated the Magistrate Judge’s ruling, and appointed the Menorah Group as lead plaintiff.

Judge Garaufis based his ruling on the Supreme Court’s holding in Dura. He reasoned that because Dura provided that plaintiffs in a fraud-on-the-market securities case can recover only if a specific loss was proximately caused by a defendant’s misrepresentations, the plaintiffs in the Comverse case could not recover any losses they had incurred before Comverse’s conduct was disclosed. Specifically, losses incurred prior to the curative disclosure cannot be considered in the recoverable losses calculation that courts engage in when selecting a lead plaintiff.

In making this determination, Judge Garaufis rejected the argument that loss causation was a factual issue that should not be considered at the pre-discovery stage. Judge Garaufis reasoned that “where (as here) it is clear from the face of the pleading that most of P & P’s losses were suffered before any alleged corrective disclosure, the Court would be abdicating its responsibility under the PSLRA if it were to ignore that issue.”

It may be true, as Judge Garaufis states, that his ruling is a logical extension of Dura’s requirements, but this consequence of the Dura decision was not immediately apparent when the Dura case first came down. After all, Dura involved a motion to dismiss; it did not involve a lead plaintiff motion.

Judge Garaufis’s ruling is also somewhat unexpected for its conclusion that courts must in effect reach some factual conclusions about a prospective lead plaintiff’s recoverable losses, and exclude losses that are not recoverable in calculating the plaintiff’s financial interest. In the Pomerantz Hudek law firm’s press release announcing its selection as lead counsel (here), Patrick Dahlstrom, one of the lawyers for the Menorah Group, is quoted as saying that the decision “reinforces the growing recognition that Courts must conduct such analysis of the facts…and eliminate those losses that are clearly not recoverable, in determining which movant has the largest financial interest.”

The determination of allowable losses is not the only pre-discovery factual determination that courts have decided they are required to make under the PSLRA. As The D & O Diary noted (here) in its discussion of the Tellabs case now pending before the U. S. Supreme Court, many courts have also decided they must weigh alternative inferences, in order to determine whether a plaintiff’s complaint meets the PSLRA’s heightened pleading standard. The evolving case law under the PSLRA seems to be moving toward a series of successive early stage factual determinations, all pre-discovery and based on the pleadings alone. Whether or not these determinations are required under the PSLRA, there is a certain cart-before-the-horse feel to these procedures. There is something uncomfortable (for me at least) about a court determining at the earliest stages of a case and without evidence that a plaintiff’s losses are not recoverable and must be excluded. (On the other hand, it is pretty hard for P & P to argue that they have the most significant financial interest in the outcome if on a net basis they didn’t even lose any money on their investment. )

A March 6, 2007 Law.com article entitled discussing the lead counsel decision in the Comverse Technology case can be found here.

More Bad News for the Lerach Coughlin Firm: The Lerach Coughlin firm’s removal from as lead counsel in the Comverse case is the firm’s second high profile removal as lead counsel in a matter of days. On February 27, 2007, Judge Barbara Lynn of Dallas granted the request of the lead plaintiff in the Halliburton securities lawsuit to replace the Lerach Coughlin firm with the Boies, Schiller firm. (The D & O Diary’s earlier post on the Halliburton lead plaintiff’s motion can be found here.) Judge Lynn also removed that Scott & Scott firm as co-lead counsel. The lead plaintiff had sought to remove the Lerach Coughlin firm because its relationship with the firm “deteriorated” after the criminal indictment of the Milberg Weiss law firm. (The Lerach Coughlin firm split off from the Milberg Weiss firm in 2004.) The Lerach Couglin law firm’s removal as lead counsel in the Halliburton case is discussed in greater detail on the Legal Pad blog, here.

But Not All the New is Bad: On the other hand, not all the news for the Lerach Coughlin firm these days is bad. For example, the firm is lead counsel in the securities lawsuit pending against First BanCorp and several of its directors and officers. On March 5, 2007, First BanCorp. announced (here) that it had settled the case for $74,250,000. The lead plaintiff in the case is the Plumbers & Pipefitters Local 51 Pension Fund (the Lerach Coughlin firm seems to be on good relationships with the organizations for plumbers and pipefitters). The Securities Litigation Watch blog has a detailed post about the First BanCorp. settlement here.

And the Lerach Coughlin firm also represented the University of California in its opt-out action against the Time Warner defendants. As The D & O Diary previously noted (here), on February 28, 2007, the University of California announced (here) that it had settled the opt-out action for $246 million. The University also announced that Lerach Coughlin firm’s fee was approximately $37 million.

As the WSJ.com Law Blog noted (here) about these developments, for the Lerach Coughlin firm, it has been “the best of times, the worst of times.”

One Final Note: As described above, the Menorah Group, selected to serve as lead counsel in the Comverse Technology case, includes the Menorah Insurance Company, Ltd. This may be one more example that Adam Savett of the Securities Litigation Watch blog can add to his list (here) of cases where private institutional investors (like, for example, insurance companies) have served as lead plaintiff in a securities class action lawsuit under the PSLRA.

Photobucket - Video and Image Hosting A frequently repeated – but demonstrably false – statement about securities class action lawsuits is that, while public pension funds have served as lead plaintiffs in securities fraud lawsuits, private institutional investors, such as banks, mutual funds, and insurance companies, have not. However, as Adam Savett points out (here) on the Securities Litigation Watch blog, private institutional investors do indeed seek to serve as lead plaintiffs, and his blog post cites several specific instances where mutual funds, insurance companies and banks have done just that.

Savett’s observations are relevant to the discussions I have been having in response to the recent wave of institutional investor opt-out settlements. (See my most recent post on opt-out settlements here.) The usual line of analysis goes that because the recent opt-out settlements have involved public pension fund opt-outs, the threat of future opt-out exposure is limited to companies that have significant public pension fund investor ownership. But this assumption could prove to be very misleading.

As Savett’s blog post substantiates, private institutional investors will choose to take an active litigation role when they see it in their interests to do so, and there is no reason why they might not elect to opt-out of a class settlement, just as they might elect to see to serve as a lead plaintiff. However, unlike Savett, I am unable to support my assertion with concrete examples. Watch this space – if I learn of an example of a private institutional investor entering into a significant securities opt-out settlement, I will post it to this blog.

Readers who might think that the Amalgamated Bank’s recent opt-out settlement with Time Warner (refer here) is an example of a private institutional investor opt-out settlement may want to take a closer look at Amalgamated. According to its website (here), Amalgamated Bank was founded in 1923 by the Amalgamated Clothing Workers of America and serves working class consumers and trade unions. In addition to normal banking functions, the bank also administers union-related trust funds and multi-employee benefit plans. The bank is owned by UNITE HERE, a trade union of textile and hospitality trade workers. Readers can reach their own conclusions, but I am not prepared to describe Amalgamated Bank as a private institutional investor.

Readers who are aware of any private institutional investor opt-out securities settlements are encouraged to let me know.

UPDATE: Adam Savett points out that the Lerach Coughlin law firm’s web site’s list of the opt out plaintiffs the firm represents in the AOL Time Warner lawsuit (here) include a number of private institutional investors, including mutual funds and insurance companies. To my knowledge, none of these plaintiffs have yet settled with the defendants, but their involvement suggests it is only a matter of time before we start seeing private institutional investor opt out settlements.

SUPPLEMENTAL UPDATE: At least one of the institutional investors that has settled with Time Warner appears to be a private institutional investor. According to Time Warner’s 2006 10-K (here, refer to page 53), Time Warner has reached a settlement of the opt out action filed by DEKA Investment GmbH, which from its website (here) appears to be an investment fund company for institutional investors. The amount of DEKA’s settlement is not disclosed. Hat tip to Adam Savett for the link.

A Fraudster’s Take on Fraud: Readers who may have missed it over the weekend will definitely want to go back and read Herb Greenberg’s March 3, 2007 column in the Wall Street Journal entitled "My Lunch With 2 Fraudsters" (here, subscription required). The column reports on Greenberg’s lunch interview with Sam E. Antar of Crazy Eddie’s infamy and Barry Minkow of ZZZZ Best infamy. It comes as no surprise to me that Sam did most of the talking. Readers may recall my prior post (here) about Sam’s views on preventing fraud. Sam also maintains the White Collar Fraud blog (here). Sam has quite a lot to say, a small portion of which comes through in Greenberg’s column. Sam makes no bones about the fact that as the architect of the Crazy Eddie’s securities fraud, he is a criminal. Among other interesting observations, Sam told Greenberg:

As criminals, we built false walls of integrity around us. We walked old ladies across the street. We built wings to hospitals…We wanted you to trust us. Simply said …if you want to be an investor, you cannot accept information at face value. "Unexamined acceptance" is the greatest cause of investor losses.

Professor Larry Ribstein has an interesting commentary (here) on his Ideoblog about Sam’s remarks.

Welcome to the Drug and Device Law Blog: The D & O Diary would like to welcome, and to encourage readers to read, the Drug and Device Law Blog, which may be found here. This new blog is written by Jim Beck of the Dechert law firm and Mark Herrmann of the Jones Day law firm. (Full disclosure: Mark and I were at Michigan Law School together, and Mark’s wife is my dentist. Small world.) The blog take a very lawyerly approach to legal issues affecting the drug and medical devices industries, although it should be noted that many of the blog’s posts are of more general interest. A particularly noteworthy recent post (here) discussed the recent Supreme Court punitive damages case and explored its implications for punitive damages awards in future class action cases.

Mark is also the author of the Curmudgeon’s Guide to Practicing Law, a humorous and irreverant guide to surviving the practice of law (big firm style). According to the WSJ.com Law Blog (here), the Guide is "a well-written and clear guide on how to be an effective law-firm associate. It’s also funny."

 

Photobucket - Video and Image Hosting For years, Warren Buffett’s annual Letter to Berkshire Hathaway shareholders has been a trove of business insight and commercial wisdom, and this year’s letter (here), released on March 1, 2007, is no exception. While the general focus of the letter is a year-end review of the various Berkshire businesses, Buffett still managed to work in some memorable observations about some larger topics. I review below several of his comments, as well as one substantial omission from the letter to shareholders. (Full dislosure: I own Berkshire shares, although not nearly as many as I wish I did.)

Executive Compensation: After noting that he has been on 19 corporate boards and that he sets the compensation for the CEOs of “around 40 significant operating businesses,” he has nonetheless faced “ostracism” from the compensation committees of the boards on which he has served, perhaps because he takes a different view on executive compensation. His concern is that there is a pack mentality on executive compensation, driven by compensation consultants, which results in the following:

CEO perks at one company are quickly copied elsewhere. “All the other kids have one” may seem a thought too juvenile to use as a rationale in the boardroom. But consultants employ precisely this argument, phrased more elegantly of course, when they make recommendations to comp committees.

Buffett is not optimistic about changing these practices, either; he says that “irrational and excessive comp practices will not be materially changed by disclosure or by an independent comp committee.” Buffett asserts that true comp reform will take place only “if the largest institutional shareholders…demand a fresh look at the whole system.” Buffett is skeptical that the fresh look will never take place as long as compensation is engineered by comp consultants who are “deftly selecting ‘peer’ companies,” a practice that will only “perpetuate present excesses.”

Hedge Funds: Using the example of the wealthy, fictitious Gotrocks family, Buffett examines the way that an investment industry of “helpers” is diverting (rather than creating) wealth through imposition of outsized management fees and other costs. Buffett has particular contempt for the “2-and-20 crowd” that charges 2% of principal and 20% of profit, ensuring enormous fees to the “helper” but inferior returns to investors:

The inexorable math of this grotesque arrangement is certain to make the Gotrocks family poorer over time than it would have been had it never heard of these “hyper-helpers.” Even so, the 2-and-20 action spreads. Its effects bring to mind the old adage: When someone with experience proposes a deal to someone with money, too often the fellow with money ends up with the experience, and the fellow with experience ends up with the money.

Dollar Weakness and U.S. Indebtedness: After reviewing the $2.2 billion profit Berkshire earned between 2002 and 2006 from its direct foreign-exchange position (i.e., Berkshire was long on foreign currencies), Buffett reviewed the reasons why Berkshire will continue to attempt to gain from foreign currency exposure, either from “the ownership of foreign equities or of U.S. stocks with major earnings abroad.” Buffett expects to gain as the dollar continues to weaken, which he expects because of the massive level of U.S. imports that are not reciprocated by export sales – as a result of which “the U.S. has necessarily transferred ownership of its assets or IOUs to the rest of the world.” The U.S. can do this because “we are an extraordinarily rich country that has behaved responsibly in the past.” But Buffett believes that this imbalance and outflow of assets and wealth has its consequences, some of which are potentially very dangerous:

our citizens will also be forced every year to ship a significant portion of their current production abroad merely to service the cost of our huge debtor position. It won’t be pleasant to work part of each day to pay for the over-consumption. of your ancestors. I believe that at some point in the future U.S. workers and voters will find this annual “tribute” so onerous that there will be a severe political backlash. How that will play out in markets is impossible to predict – but to expect a “soft landing” seems like wishful thinking.

Photobucket - Video and Image Hosting PetroChina and Darfur: Consistent with Buffett’s commitment going forward to foreign equities, Berkshire has a substantial investment in PetroChina, which is China’s biggest producer of oil. According to his letter to shareholders, as of December 31, 2006, Berkshire owned 2.3 billion shares of PetroChina Class H shares (representing 1.3% of the company and making Berkshire the company’s largest foreign shareholder), which have a cost basis of $488 million but a market value of $3.3 billion, or a current value of 670% of cost. (Buffett obviously has not lost his eye for a bargain.)

Interestingly, Buffett elected to say nothing in his letter to shareholders about Berkshire’s investment in PetroChina, which has come under fire recently (refer here) for its 40 percent investment in a Sudanese oil venture. (The allegation is that the venture supports the Sudanese government, which is responsible for genocide in the Darfur region. Based on these concerns, Harvard and Yale, among others, have divested their shares in PetroChina.) Perhaps to avoid the necessity for Buffett to address this topic in his shareholder’s letter, Berkshire released a statement (here) the week before the letter was published. Essentially, Berkshire’s response is that it is not PetroChina, but PetroChina’s controlling shareholder China National Petroleum Corporation (owned by the Chinese government) that has operations in Sudan. PetroChina itself does not, and the subsidiary can’t control the parent.

A February 23. 2007 Salon.com column entitled “Warren Buffett Plays Dumb in Darfur” (here) criticizes Berkshire’s response for ignoring the true relationship between PetroChina and CNPC – specifically, that the executive team for both companies consists of exactly the same individuals in the same functions with the same titles. The Salon.com article asserts that “to declare, as Berkshire does, that a subsidiary has no ability to control the policies of the parent, when the two entities are run by the exact same people, is an exercise in specious obfuscation.”

The D & O Diary is in no position to judge the merits of the PetroChina dispute. But it has been my observation that commentators have been more hostile toward Buffett since he started his very public bet against the dollar a few years ago. As his investment approach has moved beyond foreign currencies to foreign equities and other foreign assets, media commentators, who idealized him for so long as the “Oracle of Omaha,” are now likelier to demonize him. Buffett’s strategy to go long on foreign assets because of his bearish views on the U.S. dollar will likely make him increasingly unpopular. Perhaps Buffett himself is experiencing his own form of “backlash” of the kind he anticipated in his shareholder’s letter’s comments about the fallout from U.S indebtedness. Unlike Buffett himself, many are unable (or unwilling) to regard his decision to invest in foreign assets as the neutral pursuit of superior investment returns. I suspect that going forward Buffett will find himself dogged by similar questions like those surrounding Berkshire’s PetroChina investment.

Photobucket - Video and Image Hosting In recent posts (most recently here and here), I have commented on the worrying trend toward institutional investor opt-out cases and the massive settlements that have followed. In a February 28, 2007 press release (here), the University of California announced the latest of institutional investor opt-out settlement, a $246 settlement on the University’s behalf with Time Warner, of which the University’s counsel, the Lerach Coughlin law firm, will receive about $37 million.

The University stated in its press release that its settlement is "believed to be the largest publicly announced payment in an opt-out securities claim in history." The University estimated that the settlement represents "between 16 and 24 times the amount that it would have received through the class settlement." The University estimates that its investment loss on its Time Warner stock was about $555 million, so the school recovered about 44 cents on for each dollar of investment loss.

According to a March 1, 2007 New York Sun article (here), the University of California settlement was only one of five large institutional investors that recently reached opt-out settlements with Time Warner. The five settlements collectively totaled approximately $400 million. In addition the University of California, Time Warner also reached settlements with Amalgamated Bank, the California Public Employees Retirement System, and two pension funds for Los Angeles County.

The Sun article also notes that the payouts in the opt-out settlements "could rile some small investors because the institutions claim they are getting vastly better settlements than they would have if they remained in the class." The Sun article quotes Columbia Law School Professor John Coffee as saying that the discrepancy in per-share recovery between the class and the opt-outs is an "embarrassing distinction," but one that is not easily rectified, since any party has the right to opt-out. Coffee also said that the opt-outs could reduce the amounts companies are willing to pay out to the main pool of investors.

The five institutional investor opt-out settlements mentioned in the Sun article, together with the previously announced $105 million CalSTRS settlement with Time Warner, brings the total amount of just these six opt out settlements to $505 million, more than 20% of the $2.4 billion settlement for the entire class.

In a prior post (here), guest blogger Rick Bortnick and I discussed the problems created by the possibility of large opt out settlements following prior class settlements. But Professor Coffee’s remarks in the Sun article raise the possibility that it may become increasingly difficult to reach a class settlement at all, as settling defendants seek to reduce the amount they pay in class settlement in order to preserve assets to settle with opt outs, while class members seek to avoid any "discrepancy" in the value of class and opt out settlements, and as individual plaintiffs stream out of the class to see if they can improve their recovery by proceeding individually.

Notwithstanding these troublesome thoughts, we still don’t know whether or not the opt-out settlements will become a standard part of securities fraud litigation or will prove to be an exclusive attribute of the mega-cases growing out the wave of corporate scandals earlier in this decade. To take one example, the size of the recoveries for both for the University of California and its counsel was directly related to the massive size of the University’s investment loss. Would institutional investors, or for that matter, plaintiffs’ lawyers, be as interested in going it alone if the potential recovery is significantly less substantial?

All of these questions remain to be seen. In the meantime, it is hard to disagree with Professor Coffee’s statement in the Sun article that the flood of securities opt-out settlements is "probably the most distinctive new trend in class action litigation."

 

Photobucket - Video and Image Hosting In a series of recent editorials, the New York Sun has raised some interesting and troubling questions about a New York City’s pension fund’s involvement as lead plaintff in the Apple Computer options backdating securities litigation.

The first Sun editorial on the topic, entitled "New York Versus Apple "appeared on January 25, 2007 (here). The editorial noted the irony that the same day as the city’s Mayor, Michael Bloomberg, and its senior U.S. Senator, Charles Schumer, released a report (here) asserting among other things that meritless securities litigation was undercutting the competitiveness of the city’s financial markets, the New York City Employees’ Retirement System (NYCERS) was named as lead plaintiff in a class action lawsuit against Apple Computer and its executives and directors. The editorial observed that the city’s law firm in the lawsuit, Grant & Eisenhofer, includes on staff as Senior Counsel, Leslie Conason, whose firm website bio reports that prior to joining the law firm, she "was responsible for managing all securities lititgation for the City of New York, where she was in charge of securities litigation for the $100 billion in pension assets held by the workers and retirees of the City of New York."

The editorial also points out that a partner at the Grant & Eisenhofer law firm, Keith Fleischman, had made a $1,000 campaign contribution to the city’s Comptroller, William Thompson, Jr., in 2003, when Fleishman was at the Milberg Weiss firm. (As reported on the Comptroller’s website, here, among Thompson’s duties is the managment of the city’s pension funds.) The editorial concludes by saying that:

The notion of a shareholder suit against Apple strikes us, in any event, as a stretch. Whatever shenanigans went on with Steve Jobs’ stock options, the company’s stock price is up 600% over the past two years, far outpacing the overall gains by the stock market or NYCERS. Any reasonable shareholder should be happy as a clam. New York’s economy and streetscape have certainly benefited from the city’s Apple Stores in SoHo and at the plaza of the GM building. If there’s a bright spot, it’s that one of the Apple directors named as a defendant is Albert Gore, Jr. By the time the vice president is done being deposed by the class action lawyers hired by the NYCERS board, he may be ready to line up with Messrs. Schumer and Bloomberg the next time they call for legal reform.

 

In a letter to the editor printed in the February 27, 2007 issue of the Sun (here), Thompson defended himself and the city’s process for selecting counsel. His letter explains that after a selection process that included interviews and reference checks, the city executed agreements with nine plaintiffs’ firms in mid-2006. His letter also points out that each of the city’s pension systems’ Board of Trustees makes the final determination as to whether or not to proceed with this type of litigation. Thompson’s letter also defended the decision to pursue the Apple litigation, and the city’s role in shareholder litigation generally.

In the same February 27, 2007 issue in which Thompson’s letter to the editor appeared, the Sun ran a second editorial, this one entitled "Thompson’s Trial Lawyers" (here). The paper found that six of the nine firms in New York City’s "securities litigation pool," had made a total of $102,491 in donations to Mr. Thompson’s 2005 election campaign – an election in which Thompson "faced only token opposition" and in which he was "reelected with more than 90% of the vote." Among other firms, the Kirby, McInerney & Squire firm is reported to have given $39, 975, and the Wolf Popper firm is reported to have given $36,256. Wikipedia notes that Thompson is a leading candidate to become the Mayor of New York in 2009 and has amassed a compaign fund of over $2 million.

In addition, the editorial reports that the head of the pensions division in the city’s Law Department said that the Grant & Eisenhofer "brought the idea of NYCERS filing a lead plaintiff application to the Law Division." In other words, the editorial notes, the city didn’t discover it was injured and look for a lawyer, "a lawyer chased down a perfectly healthy client and brought the client the idea of a lawsuit, even though the Apple stock the city owned was up 600% in the past two years." The editorial concluded that:

It’s one thing… to take campaign money from trial lawyers. It’s another thing entirely to turn around and allow those lawyers to use the good name of the city pension fund to pursue litigation with no redeeming value other than racking up huge fees for those same trial lawyers. The price Mr. Thompson pays for the more than $100,000 in campaign contributions he has taken from the class-action aecurity lawyers who represent the city is inevitability that the newspapers — and, someday, perhaps, voters — are going to question his judgment in pursuing this sort of litigation.

The Sun added a third editorial on February 28, 2007, entitled "Absentee Trustees" (here) in which the paper took a closer look at Thompson’s assertion that a pension fund Board of Trustees had supervised the decision to pursue securities litigation on behalf of the fund. The paper found that at the October 24, 2006 Board "regular meeting" at which the city’s Law Department claims that the vote to pursue litigation took place, "the so-called meeting of the ‘board’ included not 11 trustees [the total number of trustees on the board], not 10 trustees, not nine trustees, not eight trustees, but exactly one. That’s right, just one actual trustee." The editorial points out that the board may want to reconsider its processes; "after all, the directors of Apple Computer are being sued by NYCERS for allegedly failing to provide proper oversight." The editorial concludes with the observation that "if things take an unfortunate turn for the New York City Employees’ Retirement System, it’s conceiveable that some enterprising class-action lawyer might look at them as a target. Apple stock appreciated 600% and it still got sued."

Way back in the optimistic era of securities litigation reform, back when Chris Cox was still just a Congressman from Orange County, when Congress enacted the Private Securities Litigation Reform Act of 1995, there was a notion that institutional investors needed to become more involved in order to eliminate abusive lawyer-driven securities litigation. So Congress promulgated a lead plaintiff process, in which the "most adequate platiniff" would be selected based on which plaintiff showed the "largest financial interest." Whatever Congress thought might result from this reform, it seems fairly likely that it did not envision institutional plaintiffs pursing lawsuits as a result of an unsupervised and campaign finance driven process, supplemented by a revolving door between the institutional investors and the plaintiffs’ firms. (As an aside, I also suspect that Congress did not envision institutional investor driven opt-out litigation either, about which I recently commented here.)

The Sun identifed the ironic propinquity of the Bloomberg/Schumer report’s release and NYCERS’ selection as lead plaintiff in the Apple litigation. An irony the Sun missed is that the Paulson Committee Interim Report (here), which preceded the Bloomberg/Schumer report by only a few weeks and raised similar concerns about the adverse competitive effects of meritless securities litigation, specifically decried "pay to play" practices between institutional investors and the plaintiffs’ bar. The Paulson Committee Report asserted that:

When political contributions are made by lawyers to individuals in charge of a state or municipal pension fund, the attorneys should not be permitted to represent the fund as a lead plaintiff in a securities class action. Following the lead of the municipal bonds industry, the securities litigation regulations should be comprehensive and should cover any direct contributions as well as indirect contributions (made through "consultant" or other similar arrangements) … At a minimum, the SEC, as an amicus, should ask courts to require disclosure of all political contributions or fee-sharing arrangements between class counsel and a lead plaintiff (or controlling individuals within the lead plaintiff organization). This disclosure should occur prior to the court’s appointment of either counsel or plaintiff and should be followed by a similar disclosure at the fee award hearing. (Emphasis added)

 

The D & O Diary has a suggestion for Mayor Bloomberg. If he really thinks abusive securities lawsuits are undermining the competitiveness of his city’s financial markets, he should toss the report that he and Senator Schumer paid McKinsey to write and read the Paulson Committee’s Interim Report’s comments about "pay to play" practices. And then he should take a very hard look at practices in his city’s Law Department. The good news for Mayor Bloomberg is that he doesn’t even need to await the SEC action the Paulson Committee’s Interim Report advocated; he can institute his own securites litigation reform without any fuss or bother or press conferences or grandstanding speeches or anthing like that. For reasons the D & O Diary has elaborated upon at length elsewhere (most recently here), this reform is unlikely to affect the relative competitiveness of the city’s financial markets in the global marketplace, but it certainly would clean up some pretty unattractive looking circumstances and practices.

How to Find out Who is "Paying to Play": Readers who are interested to know more about plaintiffs’ lawyers campaign contributions (or those of anybody else, for that matter) will definitely want to spend some time on the website (here) of the Center for Responsive Politics, where campaign contributions are searchable by donor name. (Click on the "Who Gives" tab and select "Donor Lookup" from the dropdown menu.) For example, a search on the name William Lerach identifes 150 separate donations totaling $1,283,430 (including several donations to Hillary Clinton ) A search on the name Mel Weiss shows that Weiss made 120 donations totaling $699,102. Among other candidates, Weiss made a number of donations to Senator Schumer. Hmmm, that’s kind of interesting… maybe after the law firm’s indictment, Schumer felt he could…yep, that’s probably it.

Isn’t It Ironic, Don’t You Think?: The Sun obviously has an eye for irony and an interest in securities fraud litigation. The Sun’s outlook must be in its DNA, because its founding investors, according to Wikipedia (here), included none other than Conrad Black, who has been working for years on his own wing in the securities fraud litigation house of blues. You don’t suppose that has anything to do with the paper’s obvious and manifest hostility to securites lawsuits? Nahhh…

The D & O Diary wishes to acknowledge with grateful thanks the two alert readers who prefer anonimity and who provided links to the Sun editorials and to the Center for Responsive Politics website.

 

 

 

 

 

Photobucket - Video and Image Hosting In an earlier post (here), The D & O Diary commented on the research published by Lucian Bebchuk of Harvard Law School and two colleagues, in which they examined over 19,000 options grant awards between 1996 and 2005, finding a disproportionately higher number of grants on the date during the month with the lowest share price. In an article in the March/April 2007 issue of Harvard Magazine entitled "’Insider Luck’: How Stock-Option Grants Were Gamed – And What to Do About It" (here), Bebchuk elaborates and comments upon his research.

A portion of the magazine article summarizes Bebchuk’s previously released study, in which the researchers found that 12% of all CEO options grants were "lucky grants," defined as grants awarded on days on which the stock price was at its monthly low. (The research findings are summarized in my prior post, linked above.) The magazine article adds the further research finding that "opportunistic timing has not been limited to executive’ grants; rather it has been present to a significant degree in outside directors’ grants as well." The research showed that about 9% of the grants to outside directors were "’lucky’ events taking place on dates with stock prices at monthly lows." Bebchuk reports that the opportunistic timing was spread over about 460 companies, and that "in companies in which opportunistic timing of options awards took place, luck tended to lift the boats of both executives and outside directors."

Bebchuk emphasizes that the research showed that "most companies have not engaged in such timing in awarding options," but that certain factors were associated with a higher likelihood of lucky grants. The option grants were more likely to be "lucky" when the potential payoffs were relatively high, and opportunistic timing was "correlated with increased influence of the CEO on the company’s internal pay-setting and decision-making process."

Bebchuk goes on to note that the "fact that many outside directors were themselves recipients of lucky grants reinforces the view that opportunistic stock-options awards were produced by governance failures, not business decisions made rationally and in good faith to serve shareholder interests." Bebchuk concludes by commenting that "even though significant backdating may belong to the past, its underlying causes are problems with which the corporate governance system must continue to wrestle."

Bebchuk’s research and commentary are interesting. But I have begun to be a little suspicious of research studies showing that backdating took place at a very large number of companies, far greater than the number that have announced backdating problems so far. We are now nearly a year beyond the first wave of media attention surrounding the backdating issue. How many more companies can there be out there yet to divulge options grant manipulations? If Bebchuk’s numeric research conclusions are not ultimately borne out, are his other conclusions and comments adequately supported? To be sure, there may yet be many companies about to reveal options timing problems, and Bebchuk’s research could be validated by forthcoming disclosure events. At this point, I have become a little skeptical that there are as many companies yet to reveal options timing problems as Bebchuk’s research would suggest.

Losing AIM?: In prior posts (most recently here), I have suggested that global financial markets are evolving, and that factors that may have made London’s Alternative Investment Market (AIM) more attractive than U.S securities markets in the last few years may be changing on their own. A February 22, 2007 article in the U.K.-based LegalWeek.com entitled "Losing AIM – Three Years of Market Boom Has Come to an End" (here) confirms that "the twin shadows of market indigestion and long-simmering concerns regarding the quality of companies floating has finally called a halt to the AIM express."

The article notes that the recent headlines regarding Torex Retail (see my prior post, here) "have taken their toll, though regulatory concerns have been brewing for months." Although the article optimistic about the prospects for renewed future prosperity on the AIM, it does acknowledge that right now, the market is going through a "necessary correction." As one commentator quoted in the article says, "we are paying the price for the number of deals done in 2005 for companies of questionable quality."

Contrary to the arguments of would-be reformers, the AIM experience is not bearing out the need for U.S securities markets to loosen their regulatory standards in order to compete in the global marketplace. To the contrary, the AIM experience increasingly is substantiating the need for markets to maintain their regulatory discipline in order to preserve investor confidence. Moreover, it appears that some of the differences in the global financial marketplace that have been driving competition in recent years are turning out to be transient, and are evolving. As The D & O Diary has frequently noted (most recently here), we should be very cautious about relying on transient phenomena as a basis for compromising the U.S. securities markets’ regulatory integrity.

Hat tip to Werner Kranenburg of the With Vigor and Zeal blog for the link to the LegalWeek.com article.

Practice, Practice, Practice? How you really get to Carnegie Hall — refer here.

 

Photobucket - Video and Image Hosting The would-be reformers who propose restructuring the U.S securities regulation regime cite the loss of U.S. IPO market share to overseas markets, particularly London’s Alternative Investment Market (AIM), as justification for regulatory reform. But as The D & O Diary has previously noted (most recently here and here), these overseas markets, especially the AIM, face precisely the opposite pressure – that it, to validate their regulatory integrity in order to maintain investor confidence.

Along those lines, on February 20, 2007, the London Stock Exchange (LSE) announced a variety of new rules for AIM companies, providing further disclosure obligations and clarifying guidance regarding the rules for "Nominated Advisors" (or Nomads, as they are more popularly known). In its press release (here) announcing the rules changes, the LSE said that the "changes are intended to ensure the AIM maintains the right regulatory balance as the market continues to grow and thrive internationally." The AIM Director of Markets is quoted as saying that "as the market grows and becomes increasingly international, the Exchange will take incremental steps to build on the quality and integrity of the market."

The LSE’s summary of the rules changes, as well as a summary of the process leading up to the changes, can be found here. The amended Rules for AIM Companies can be found here.

The key changes in the new Rules for Companies include new requirements for disclosure of critical information on each AIM Company’s website; enhanced disclosure requirements for pre-admission announcements; and guidance regarding reverse takeovers. The changes also include revisions to the AIM disciplinary guidelines, including the provision for the LSE to be able to issue warnings for AIM rules violatins, and an increase in the maximum disciplinary fine (from 25,000 pounds to 50,000 pounds). A good summary of the new rules by the Pillsbury Winthrop Shaw Pittman law firm can be found here.

The AIM summary of the changes (here) notes that a number of commentators on the proposed rules during the notice-and-comment period had suggested that that the LSE "should mandate particular corporate governance requirements for AIM companies." The LSE declined to implement uniform corporate governance standards, observing that "given the wide range of companies that admit to AIM, the Exchange believes that the corporate governance measures to be adopted remain a matter for the nomad to provide advice about, on a company-by-company basis, both on admission and also on an ongoing basis as the company develops."

Even though the LSE declined to require uniform governance measures, the LSE’s increased emphasis on disclosure, and tightened requirements for Nomads, as well as the increased disciplinary provisions, bespeak an appreciation for the need to encourage regulatory integrity to maintain investor confidence. As The D & O Diary has noted in the past, companies attracted to the AIM out of a perception of a lighter regulatory touch there will find that they still face regulatory scrutiny. Moreover, the changes suggest that the comparative landscape among the various global exchanges is evolving. For that reason, the U.S. should hesitate to alter its regulatory structure to address what may be transient differences in the global financial marketplace.

Special thanks to Werner Kranenburg of the With Vigor and Zeal blog and to alert reader Doug Edinburgh for links regarding the AIM rules changes.

Photobucket - Video and Image Hosting A Baker’s Dozen of Canadian Securities Regulators: In the meantime, Canada is wrestling with a different issue – whether to unite its current system of 13 provincial securities regulators into a single, national regulator. According to news reports (here), a panel convened last year concluded that a single regulator could "consistently enforce investor rights across Canada." Canada is the "only major developed country without unified securities regulation, " as a result of which bad actors who have been fined or barred from activity can simply move from province to province.

The push for a single unified regulator has recently gained momentum because of several high profile insider trading cases, and the movement got a further boost when Alberta’s finance minister came out in favor of a unified regulatory approach (here). But the boost proved shortlived, as the head of the Alberta securities commission publicly opposed both the single regulator proposal and the finance minister (here). The Ontario government has been pushing for a single regulator, but other provinces, notably Quebec, have been pushing back.

Photobucket - Video and Image Hosting Epic Poet: Homer — first the Illiad and the Odyssey, then the Simpson. Read Homer’s most eternal statements, here. (Better not to have any food in your mouth when you read these.)