the class action paradox exercising your legal rights amid the market collapse june 17,...
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The Class Action ParadoxThe Class Action ParadoxExercising Your Legal Rights Amid the Market Collapse
June 17, 2009
Presentation to the Board of Retirement of the Fresno County Employees' Retirement Association
Presented by: Joseph J. Tabacco, Jr. Nicole Lavallee Kevin Shelley
History of Our Relationship with FCERAHistory of Our Relationship with FCERA
Portfolio Monitoring– Berman DeValerio retained in November 2000 to
identify losses over $500,000 and evaluate cases at no charge
– Fall 2006 agreement incorporates significant upgrade online monitoring system
• Firm receives electronic data from custodian bank• Quarterly reports notify FCERA of material losses• Staff can access case info on secure client website
Representing FCERA in LitigationRepresenting FCERA in Litigation
Securities Class Actions– Bondholder representatives with Fresno County in
WorldCom (settled for $6.13 billion)– Named plaintiff in Adelphia ($460 million)– Co-lead plaintiffs in BristolMyers-Squibb
($300 million)– Named plaintiff in Openwave Systems ($20 million)– Co-lead plaintiffs in Warnaco ($12.85 million)
Other cases:– Firm has represented FCERA in several non-
securities fraud matters
The Class Action ParadoxThe Class Action Paradox
Amid rampant fraud, tumbling markets and failed regulation, investors are filing a record number of complaints
Once in court, however, plaintiffs must overcome legal barriers erected by Congress and the Supreme Court over the last 15 years
Source: NERA Economic Consulting
Congress Eroded Investor RightsCongress Eroded Investor Rights
Private Securities Litigation Reform Act (1995)– Raised pleading standards beyond any other
type of private lawsuit• Required plaintiffs to plead detailed facts showing
defendant knew acts were wrong• But, at the same time, stopped plaintiffs from
gathering testimony and documents to back claims
– Established ‘lead plaintiff’ provision
Securities Litigation Uniform Standards Act (1998)– Funneled securities class actions to federal
court, where plaintiffs’ burdens are greater
The Supreme Court Ruled Against InvestorsThe Supreme Court Ruled Against Investors
Central Bank (1994)– Eliminated claims against third
parties who aid and abet fraud
Dura Pharmaceuticals (2005)– Required that plaintiffs prove that
defendant’s misrepresentation (or other fraudulent conduct) proximately caused plaintiffs’ economic loss
Tellabs (2007)– Required that plaintiffs demonstrate
an inference of scienter that is cogent and at least as compelling as any opposing inference of non-fraudulent intent
Stoneridge (2008)– Limited ability to sue third parties
who engaged in deceptive acts
And the S.E.C. Went M.I.A.And the S.E.C. Went M.I.A.
Referred fewer fraud cases and obtained less in penalties
Reduced responsibility of auditors to evaluate management’s assessment of internal controls
Voted against granting major shareholders access to proxy
Source: Securities and Exchange Commission
The Securities and Exchange Commission:
1000
1050
1100
1150
1200
1250
2005 2006 2007 2008 2009
Enforcement Staff Declining
The Fraud Pyramid
Fraud in a DownturnFraud in a DownturnFinancial Pressure
During an economic downturn, pressureto meet financial targets increases,along with consequences of failure.
OpportunityCompanies may prioritize revenue-producingactivities and cut back on risk management,
creating new opportunities for fraud.
RationalizationIncreasing pressure and opportunities
make it easier for employees to rationalize fraudulent activities.
Source: “Financial fraud: Does an economic downturn mean an uptick?” Deloitte Financial Advisory Services, 2008
U.S. Financial Collapse Spurs ClaimsU.S. Financial Collapse Spurs Claims
March 2008– JP Morgan acquires Bear Stearns for $10 a share
July– FDIC seizes IndyMac
September– Lehman Bros. files for bankruptcy– AIG rescued by U.S. government– Fannie Mae and Freddie Mac seized– WaMu is largest bank failure in U.S. history
December – Madoff Investment Securities exposed as Ponzi
scheme April 2009
– Bank of America CEO Kenneth Lewis says Merrill Lynch’s problems not disclosed at time of merger
June– SEC sues Countrywide founder Angelo Mozilo for
securities fraud
Recession Continues to Prompt New SuitsRecession Continues to Prompt New Suits
As woes spread, new sectors become vulnerable to fraud: high-tech, retail and services
Declining revenues, shrinking executive pay and job insecurity provide motives for fraud
Investors in asset-backed securities file suits
New Study: Institutional Investors’ Cases Are More Successful New Study: Institutional Investors’ Cases Are More Successful
Lawsuits led by institutional investors: Are more likely to survive pleading phase
– 86% of cases with institutional lead plaintiffs survive motion to dismiss, compared with 56% of cases led by individuals
Settle for more money – Settlements led by institutional investors averaged $104.2 million,
compared with $9.8 million for individual lead plaintiffs– Median settlement was four times larger - $15.7 million for
institutional plaintiffs, compared with $4.3 million for individual plaintiffs
Are more likely to result in higher quality corporate governance changes
C.S. Agnes Cheng et al., “Institutional Monitoring Through Shareholder Litigation,” April 29, 2009
Funds Are Active in Largest RecoveriesFunds Are Active in Largest Recoveries
Percent of Top 100 Settlements Led by
Institutional Investor
44
63
79 82
2005 2006 2007 2008
Company Settlement Year
Enron $7.2 billion 2007
WorldCom $6.2 billion 2005
Tyco International $3.2 billion 2007
Cendant $3.2 billion 2000
AOL Time Warner $2.5 billion 2006
Nortel Networks I $1.1 billion 2006
Royal Ahold $1.1 billion 2006
Nortel Networks II $1.1 billion 2006
McKesson HBOC $1.0 billion 2008
Xerox $750 million 2009
Source: RiskMetrics Group
Class Actions Face New Legal ChallengesClass Actions Face New Legal Challenges
Recession changes dynamics of litigation– Fewer deep-pocket defendants – More bankruptcies, which complicate recoveries
Steep odds for claims against third parties involved in fraud
Loss causation difficult to prove– Amid widespread market declines, plaintiffs must link
fall in defendant’s stock price to specific disclosures
Strategies for Taking Legal ActionStrategies for Taking Legal Action
Legal options
– Consider filing individual opt-out claims in state court
– Cast wider net to recoup losses
– Use settlements to strengthen corporate governance
Strategies for Making Policy ChangesStrategies for Making Policy Changes
Advocate Policy Change– Back reinvigorated SEC to
• Increase case referrals
• Boost enforcement
• Give shareholders meaningful chance to propose directors
– Fight to amend securities laws• Restore third-party liability,
overriding Stoneridge and Central Bank
• Return to reasonable standards for proving fraud in court, blunting TellabsNew SEC Chairman Mary Schapiro
Thank YouThank You
Joseph J. Tabacco, Jr.
Nicole Lavallee
Kevin Shelley
425 California Street
Suite 2100
San Francisco
(415) 433-3200