Opinion

Alison Frankel

The collateral class action consequences of SAC’s guilty plea

Alison Frankel
Nov 4, 2013 22:55 UTC

Last Friday, with rumors of SAC Capital’s imminent guilty plea as inescapable as stale candy corn on Halloween, class action lawyers from Wohl & Fruchter filed a first-of-its-kind letter with U.S. District Judge Laura Swain, the judge presiding over the Justice Department’s criminal case in Manhattan against Steven Cohen’s infamous hedge fund. The firm explained that it is co-lead counsel in a securities class action in federal court in Manhattan, alleging that SAC harmed investors in the Irish drug company Elan when the hedge fund dumped Elan shares based on inside information. Along with Wyeth investors, whose parallel class action has been consolidated with the Elan case, Elan shareholders claimed that they’re a victim of SAC’s crimes. And under the federal Crime Victims Rights Act of 2004, wrote Wohl & Fruchter, Elan and Wyeth shareholders have a right to present her with their view of SAC’s plea.

Never mind that the plea hadn’t actually been entered when the law firm sent the letter. The class action lawyers wanted to go on record with a demand that Swain reject any plea deal that did not require SAC to admit to insider trading in Elan and Wyeth shares. (The Wall Street Journal had reported Wednesday that prosecutors had agreed to that concession.) The $276 million Elan and Wyeth scheme, investors told Swain, was the core of the SAC indictment. She should not accept a guilty plea that would permit the hedge fund to skirt the most serious charges it faced.

Why were Elan and Wyeth investors so hot for prosecutors to wring an admission of illegal trading from SAC? Because it would save them an awful lot of trouble in their class actions. If SAC pleaded guilty to insider trading in Wyeth and Elan shares, they wouldn’t have to prove the hedge fund’s misconduct in their cases. As you know, the collateral consequences of defendants’ admissions to the Securities and Exchange Commission have been in the news since the agency changed its policy in June. JPMorgan Chase’s settlement in September with the SEC showed that artful crafting of regulatory admissions can limit the damage in related securities class actions. But a defendant can’t get around a guilty plea to fraud. That’s an admission that can’t subsequently be denied.

So you have to give Wohl & Fruchter credit (along with Elan investors’ co-counsel from Pomerantz Grossman Hufford Dahlstrom & Gross and Wyeth shareholders’ lead counsel from Scott + Scott and Motley Rice) for really creative deployment of the Crime Victims law. It’s not unprecedented for civil litigants to use the 2004 law to protest a corporate plea deal; in 2009, victims of an oil refinery explosion in Texas asked a federal judge to reject the government’s plea agreement with BP because they said the oil company’s penalty wasn’t high enough. Friday’s letter to Swain, however, appears to be the first time that plaintiffs in a securities class action have cited the Crime Victims law to try to better their litigation position. There haven’t been a lot of opportunities, of course, because the law was enacted after the corporate guilty pleas for securities fraud of the Enron era. But Wohl & Fruchter’s tactic should give class action plaintiffs a little extra leverage against defendants under criminal investigation: Settle with me or I’ll protest your plea deal.

Shareholders’ letter to Swain will probably turn out to be moot. When U.S. Attorney Preet Bharara finally announced the terms of SAC’s plea on Monday, there was no mention of a carve-out for the Elan and Wyeth trades described in the indictment. SAC pleaded guilty to all five counts, including the wire fraud charge that encompassed insider trading in Elan and Wyeth. SAC’s counsel from Paul, Weiss, Rifkind, Wharton & Garrison and Willkie Farr & Gallagher referred me to a spokesman for the fund, who declined to comment. But I don’t see how SAC can deny in the class action that it illegally traded the shares.

Scathing conflicts decision v. Boies Schiller: What’s enough checking?

Alison Frankel
Nov 1, 2013 22:07 UTC

Last January, Boies, Schiller & Flexner filed a complaint in federal court in Manhattan against the hotel management company Marriott International, the New York hotel workers’ union and the real estate investment trust Host Hotels & Resorts, which owns 118 hotels in the United States and abroad. The suit made quite stunning assertions. Boies’s client, Madison 92nd Street Associates, accused Marriott, Host and the union of engaging in a racketeering conspiracy in which Marriott agreed secretly to help the union organize workers at certain unlucky Marriott-managed hotels in New York City, while leaving key Host properties managed by Marriott, including the Marriott Marquis, ununionized. Madison, which owned a Marriott-run hotel on New York’s Upper East Side, claimed that as a victim of the three-way conspiracy, it was forced into bankruptcy by high labor costs after its workers joined the union.

As it happens, Boies Schiller had represented Host – one of the defendants it was now accusing of conspiracy – at the time the supposed plot was hatched in 2002. In fact, the firm was counsel to a special Host board committee that engaged in a two-year, all-encompassing review of Host’s relationship with Marriott, which culminated in a new agreement between the companies in 2002. Host’s counsel at Hogan Lovells drafted the new deal, but Boies Schiller advised behind the scenes. In all, Boies Schiller worked about 3,700 hours for Host between 2000 and 2005, billing the company about $1.25 million.

That timing alone, according to an unbelievably scathing opinion made public Thursday by U.S. District Judge Colleen McMahon, should have put Boies Schiller on high alert about a potential conflict. According to McMahon, ethics advisers from inside and outside Boies Schiller should have needed “but a moment” to realize that its position in the Madison suit was untenable. It was attempting to assert on Madison’s behalf that an agreement Boies Schiller actually advised upon in 2002 was a sham, McMahon said, which meant that Host might call Boies lawyers who advised on the Marriott agreement as witnesses to defend against Madison’s claims. “A clearer conflict of interest cannot be imagined,” McMahon said. “A first year law student on day one of an ethics course should be able to spot it. BSF, which holds itself out as one of the country’s preeminent law firms, did not.”

BofA, JPMorgan travel opposite roads to end MBS liability

Alison Frankel
Oct 31, 2013 19:46 UTC

For a change, JPMorgan’s rollercoaster negotiations with state and federal regulators to resolve the bank’s liability for rotten mortgage-backed securities did not make news Wednesday. Has there ever been more public dealmaking between the Justice Department and a target? It feels as though the public has been made privy to every settlement proposal and rejection, as if we’re all watching a soap operatic reality show. Will there be a reunion episode if the bank and the Justice Department end up finalizing the reported $13 billion global settlement, with Eric Holder and Jamie Dimon shouting imprecations at each other?

Bank of America filled the MBS news vacuum Wednesday. Its quarterly filing with the Securities and Exchange Commission disclosed that the bank – under Justice Department investigation for its securitization practices – has bumped up its estimate of litigation losses in excess of its reserves to $5.1 billion. The filing also said that staff lawyers from the New York attorney general’s office have recommended a civil suit based on Merrill Lynch’s mortgage-backed securities.

BofA also had some good news, though. Late Tuesday, U.S. District Judge Mariana Pfaelzer of Los Angeles granted tentative approval to the bank’s $500 million Countrywide MBS class action settlement, despite objections to the deal from the Federal Deposit Insurance Corporation (on behalf of 19 failed banks that owned Countrywide MBS) and several other institutions. Perhaps even more importantly, on Wednesday, two significant objectors to BofA’s proposed $8.5 billion put-back settlement with private Countrywide MBS investors dropped their challenges to the deal. In separate letters to New York State Supreme Court Justice Barbara Kapnick, who has presided over a sporadic but nearly concluded trial on the settlement, three Federal Home Loan Banks and two Cranberry Park investment vehicles asked to withdraw from the proceeding. The remaining objectors, led by AIG, Triaxx and the FHLB of Pittsburgh, filed a strong post-trial brief summarizing their evidence that the proposed settlement was obtained through a “conflicted, back-room, closed-door process” and “cannot be endorsed without running roughshod over the absent certificateholders’ interests.” But the objectors’ ranks are dwindling, and late withdrawals by MBS certificate holders that actually helped try the opposition case has to increase the pressure on Justice Kapnick to bless the deal.

How one N.Y. judge is quietly eroding securities class actions

Alison Frankel
Oct 30, 2013 19:47 UTC

Earlier this month I told you about a certiorari petition that has the potential to end securities class action litigation as we know it. Halliburton has asked the U.S. Supreme Court to dismantle the very foundation of modern shareholder fraud litigation: the court’s 1987 decision in Basic v. Levinson, which held that investors are presumed to have relied on public misrepresentations about stock trading in an efficient market. Basic preserved defendants’ opportunity to rebut that presumption of reliance, but as a group of eminent law professors and former officials of the Securities and Exchange Commission said in an Oct. 11 amicus brief supporting Halliburton’s petition, that’s more of a theoretical right than an actual one. “A quarter-century of experience with Basic has demonstrated that the fraud-on-the-market presumption is effectively not rebuttable, and that it essentially eradicates the element of reliance,” the brief said. “Time has borne out Justice (Byron) White’s concern that, ‘while, in theory, the court allows for rebuttal…such rebuttal is virtually impossible in all but the most extraordinary case.’ ” In fact, according to a working paper by Stanford law professor and former SEC Commissioner Joseph Grundfest, who signed on to the Halliburton amicus brief and is cited liberally within it, there have only been five – five! – cases in which securities fraud defendants actually succeeded in countering Basic’s presumption of reliance.

But a pair of recent rulings by U.S. District Judge Katherine Forrest of Manhattan – including her decision Tuesday to deny certification of a class of Deutsche Bank shareholders – shows that in some cases, defendants can altogether avoid Basic’s presumption of reliance by challenging the efficiency of the market in which their shares trade. In both the Deutsche Bank decision and Forrest’s opinion last July in George v. China Automotive Systems, the judge insisted on hearings to evaluate shareholders’ evidence of market efficiency – and ultimately concluded in both cases that shareholders hadn’t established the existence of an efficient market for the defendant’s stock. Basic’s fraud-on-the-market presumption, she ruled in both class actions, wasn’t even triggered because the China Automotive and Deutsche Bank shareholders hadn’t satisfied Basic’s condition that shares trade in an efficient market.

I should point out that Forrest had other big problems with the proposed China Automotive and Deutsche Bank classes. Lead plaintiffs in each of the class actions bought and sold shares during the class period, and the judge said that such in-and-out shareholders are inadequate class representatives because they’re subject to individual defenses. Forrest also ripped to shreds the expert witness for Deutsche Bank shareholders, whose main expertise, she said, was “being an expert in plaintiffs’ securities cases.” (Ouch.) Forrest disallowed his testimony on Daubert grounds, which made it impossible for shareholder lawyers from Robbins Geller Rudman & Dowd to establish market efficiency.

Icahn-controlled CVR Energy sues Wachtell, claims board minutes faked

Alison Frankel
Oct 29, 2013 20:58 UTC

There’s an air of devilish glee in a new malpractice complaint against Wachtell, Lipton, Rosen & Katz, filed on Oct. 24 by CVR Energy in federal court in Kansas. Wachtell, as the suit explains, counseled CVR in its 2012 defense of a hostile tender offer by Carl Icahn. Icahn won the takeover fight, despite the involvement of the outspoken anti-takeover law firm and its investment-bank allies from Goldman Sachs and Deutsche Bank. So CVR is now an alter ego of Carl Icahn, who is using this suit to thumb his nose at Wachtell, his frequent opponent in takeover battles and the issuer of countless pronouncements about the scourge of activist investors like him.

Icahn’s complaint, filed by his longtime outside lawyer Herbert Beigel as well as the Kansas firm Smithyman & Zakoura, is also a bit of litigation gamesmanship. Its claims are not based on Wachtell’s anti-takeover advice – Icahn’s already won that game – but on the firm’s supposed failure to disclose to the CVR board the terms of the company’s revised fee agreement with Goldman and Deutsche Bank. According to Icahn, Wachtell should have informed CVR’s board that under the company’s second engagement letter with the banks, Goldman and Deutsche actually stood to reap millions of dollars more in fees if CVR’s takeover defense failed than the flat $9 million they’d each receive if the company succeeded in warding off Icahn’s tender offer. It’s no coincidence that Goldman and Deutsche Bank are litigating that very fee dispute in parallel breach-of-contract suits against CVR in New York State Supreme Court. The banks, represented by Stroock & Stroock & Lavan, filed their suits after the new Icahn-backed directors at CVR refused to approve $18 million in fees to each of them.

But even if you read CVR’s complaint against Wachtell with an eyebrow raised in skepticism, you have to pay attention to a suit that accuses a preeminent corporate firm of falsifying board minutes to protect fees for its investment banking friends. According to the complaint, when Wachtell submitted minutes of a Feb. 28, 2012, board meeting to CVR’s directors in May 2012, the minutes noted a presentation on the banks’ revised engagement agreements by Wachtell partner Benjamin Roth – but (again, according to the CVR suit) Roth’s presentation didn’t actually take place “in form or substance.” The Icahn-controlled company provided additional detail about the supposedly falsified minutes in a brief opposing summary judgment for Goldman and Deutsche Bank in the New York litigation, asserting that no one else who attended the 90-minute board meeting in February 2012 supports Roth’s account. “Indeed, the only witness who claims Mr. Roth made this presentation is Mr. Roth, while all others…have either testified under oath that Mr. Roth did not make such a presentation or cannot recall him doing so,” the brief said.

FHFA’s $5.1 bln JPMorgan deal boosts FDIC – but not noteholders

Alison Frankel
Oct 28, 2013 19:59 UTC

The Federal Housing Finance Agency, the Congress-created conservator of Fannie Mae and Freddie Mac, operates independently of the U.S. Justice Department, which is why FHFA was able to announce its $5.1 billion settlement of securities fraud and breach-of-contract claims against JPMorgan Chase on Friday evening, before the much-ballyhooed but as yet unsigned $13 billion global deal between the bank and the government. As you know, FHFA and its lead counsel at Quinn Emanuel Urquhart & Sullivan have been whipping JPMorgan and its fellow bank defendants for as long as the conservator’s cases have been before U.S. District Judge Denise Cote in Manhattan. Facing a June 2014 trial date, and with no higher-court relief from Cote’s rulings in sight, JPMorgan had little choice but to settle FHFA’s claims that the bank and its predecessors Bear Stearns and Washington Mutual duped Fannie and Freddie about the mortgage-backed securities they were peddling. FHFA had all the leverage here.

That’s what makes one provision of the settlement so intriguing. In what I’ve heard was one of the hardest-fought sentences in the agreement, FHFA insisted that JPMorgan waive its right to seek indemnification from the Federal Deposit Insurance Corporation, which sold Washington Mutual Bank to JPMorgan in September 2008, for the $1.153 billion WaMu piece of FHFA’s $5.1 billion deal. The FDIC and JPMorgan have been fighting for years in federal court in Washington about whether the bank or the deposit insurance corporation is liable for claims based on WaMu’s deficient mortgage-backed securities, most notably in litigation in which Deutsche Bank, as the trustee of about 100 WaMu MBS trusts, has asserted a whopping $6 billion to $10 billion in put-backs. JPMorgan’s counsel at Sullivan & Cromwell, meanwhile, have sued in a related case for a sweeping declaration that the FDIC, and not the bank, is liable for all WaMu MBS claims because they weren’t on WaMu’s books when JPMorgan bought the failed bank. U.S. District Judge Rosemary Collyer of Washington has said she’ll decide in the Deutsche Bank trustee case whether JPMorgan or the FDIC is stuck with responsibility for deficient WaMu mortgage-backed securities. Discovery is under way in her court on the terms of the 2008 agreement under which JPMorgan acquired WaMu.

In Friday’s deal, FHFA could easily have ignored any potential exposure for the FDIC. Its settlement, after all, is with JPMorgan, and if the bank subsequently sued the FDIC to get back the WaMu piece of the deal, FHFA wouldn’t be affected. But instead, FHFA insisted that the bank expressly give up indemnification claims from the deposit insurance corporation for what it is paying out to Fannie and Freddie for WaMu’s toxic MBS. For the sake of appearances, if nothing else, that’s an important concession from JPMorgan.

Former QB fights ex-lawyer to control likeness class action vs EA

Alison Frankel
Oct 23, 2013 22:24 UTC

A class action involving the supposed misappropriation of images of college athletes by the videogame maker Electronic Arts has provoked a thorny question about who truly represents the interests of absent class members. Is it the name plaintiff who filed the case on behalf of everyone who allegedly suffered the same injury as him? Or is it the lawyer who has been acting on the class’s behalf – even if he’s been fired by the name plaintiff?

This sticky wicket comes courtesy of Ryan Hart, who played quarterback for Rutgers between 2002 and 2005. Back in 2009, Hart and his lawyers at the firm then known as McKenna McIlwain filed a class action in state court in New Jersey, asserting that Electronic Arts had violated Hart’s privacy rights when it made use of his image in the NCAA Football videogame series. EA removed the case to federal court in New Jersey, where it argued that it has a First Amendment right to transform the images of college athletes like Hart into virtual players for its videogames. U.S. District Judge Freda Wolfson agreed. She granted summary judgment to EA in September 2011.

Hart and his lawyers appealed to the 3rd Circuit. Last May, a split appellate panel vacated Wolfson’s judgment for EA. The two judges in the majority held that EA had not sufficiently transformed Hart’s image to trigger its First Amendment protection against his privacy rights. The blockbuster ruling, which was followed in July by a 9th Circuit decision that applied similar reasoning to reinstate other class action litigation by college athletes against EA, reopened the prospect of the videogame maker’s enormous potential liability to thousands of former college athletes.

BP oil spill class deal faces constitutional challenge – from BP

Alison Frankel
Oct 22, 2013 21:18 UTC

Everyone with an interest in the future of class action settlements ought to be paying close attention to arguments slated to take place at the 5th Circuit Court of Appeals on Nov. 4. Objectors to BP’s multibillion-dollar settlement with victims of the 2010 Deepwater Horizon oil spill will tell a three-judge appellate panel why, in their view, U.S. District Judge Carl Barbier improperly approved a class settlement in which similarly situated claimants are treated differently. The plaintiffs steering committee that reached the agreement with BP will argue that the intricate 1,000-page settlement, painstakingly negotiated over several months, meets all of the requirements for class certification. And BP? Well, that’s where this appeal gets complicated – and fascinating.

You probably remember that last month BP won a big ruling from a different 5th Circuit panel in a separate, but related, appeal. In that case, BP challenged Barbier’s order interpreting the settlement agreement’s provisions for calculating business and economic losses. The trial judge had held that claimants could establish losses based on “cash in, cash out” records. BP argued that Barbier’s approved methodology had resulted in billions of dollars of claims by uninjured businesses that just happened to fit the accounting criteria. A split 5th Circuit panel agreed with BP that the settlement agreement cannot be interpreted to define monthly revenue as cash received and variable expenses as cash paid out, and the majority ordered Judge Barbier to reconsider his approval of those definitions.

The panel judges – Edith Clement, Leslie Southwick and James Dennis – also engaged in a very unusual intra-opinion debate about the use of class action settlements to achieve global resolutions of sweeping claims. Judge Clement took a hard line, asserting that judges may not approve class action settlements that permit recoveries by uninjured claimants. If the BP class includes members who haven’t sustained losses attributable to the oil spill, she said, “The settlement is unlawful.”

Where’s accountability to MBS investors in $13 bln JPMorgan deal?

Alison Frankel
Oct 21, 2013 19:47 UTC

By all accounts, JPMorgan Chase is on the verge of a record-setting $13 billion settlement with the Justice Department and other state and federal regulators that will resolve the bank’s civil liability to the government for the sale of mortgage-backed securities, by JPMorgan itself and by Bear Stearns and Washington Mutual. We still don’t know precisely what admission JPMorgan will make as part of the deal, and based on the bank’s shrewd blame-taking in its London Whale trade losses settlement with the Securities and Exchange Commission, we can assume any admissions will be tailored to limit collateral damage in private litigation. Nonetheless, regardless of how JPMorgan phrases its acceptance of responsibility, the bank’s $13 billion settlement is an acknowledgment of the obvious: The mortgage-backed securities market was infested at its foundation, like a house gnawed away by termites.

So why are investors in private-label MBS still standing in the rubble of collapsed mortgage-backed trusts? We haven’t seen a final allocation plan for the $13 billion settlement, but I haven’t seen any indication that money has been set aside for private investors in JPMorgan, Bear or WaMu MBS offerings. To the contrary: Certificate holders are already asking whether the bank intends to shift the cost of the settlement’s reported relief to underwater homeowners on to MBS trusts.

Investors in private-label MBS have experienced hundreds of billions of dollars in losses. Let’s look, for instance, at JPMorgan’s description of the fate of mortgage-backed securities sold by the bank and its predecessors Bear and WaMu. According to JPMorgan’s 2012 annual report, the three entities sold a combined $450 billion in MBS to private investors (as opposed to Fannie Mae and Freddie Mac) between 2005 and 2008. More than a quarter of the original face value of the securities, or $118 billion of that $450 billion, has been liquidated, with investors suffering average losses of more than 60 percent on liquidated underlying loans. By my math, that’s about $71 billion in losses for private-label JPM, Bear and WaMu MBS trusts as of the filing of the bank’s annual report last December – with more likely, since the report also disclosed that $39 billion in underlying mortgage loans were at least 60 days overdue.

How the government has evaded constitutional test of secret wiretaps

Alison Frankel
Oct 18, 2013 22:12 UTC

If you haven’t already, please read Charlie Savage’s fascinating story, “Door May Open for Challenge to Secret Wiretaps,” in Thursday’s New York Times. Savage reported that the Justice Department is poised for the first time to notify a criminal defendant that evidence against him was obtained through the FISA Amendment Act of 2008 (FAA), which granted the Foreign Intelligence Surveillance Court the power to approve sweeping, warrantless wiretapping. The notification is significant because it will establish the defendant’s standing, under the U.S. Supreme Court’s ruling last February in Clapper v. Amnesty International, to challenge the constitutionality of warrantless wiretapping authorized under the FAA.

Savage’s story detailed the debate within the executive branch about whether the Justice Department is obligated to tell defendants about evidence obtained through warrantless surveillance. U.S. Solicitor General Donald Verrilli – who had assured the U.S. Supreme Court in the Clapper case that such disclosures would be made – was reportedly taken aback when he learned in June that prosecutors took a contrary position in opposing motions for disclosure by three defendants accused of terrorist acts. The defendants – two brothers charged in Ft. Lauderdale, Florida, federal court and one young suspect in a Chicago case – had asked the government to acknowledge its use of evidence from FAA-approved wiretaps, after Senator Dianne Feinstein (D-Calif) publicly cited their cases, among others, as justification for the broad data collection permitted under the FAA. Through the summer, according to Savage, the Justice Department discussed how to reconcile concerns about the national security implications of notifying defendants with defendants’ due process rights. The upcoming notification, in an unspecified case, reflects Justice’s determination that it is legally required to disclose to defendants that it has obtained evidence through warrantless wiretaps.

The Times story, as well as a Freedom of Information Act complaint filed Thursday afternoon by the American Civil Liberties Union against the Justice Department, prompted me to go back to the records in the Ft. Lauderdale and Chicago cases Savage cited, to see how the government has so far fended off notification demands. Defense lawyers in the cases deserve a lot of credit for their dedication and enterprise in making those demands. According to the ACLU complaint, 11 cases implicating FAA-derived evidence have been publicly cited in Congress. Senator Feinstein mentioned eight cases in an FAA reauthorization hearing before the Senate Select Committee on Intelligence in December, and in June FBI Deputy Director Sean Joyce mentioned three others in testimony before the House Permanent Select Committee on Intelligence. Defendants in many of the cases have already pleaded guilty, often, according to Patrick Toomey of the ACLU, before they ever knew the government was running the mass data collection operations revealed by Edward Snowden. Only Durkin & Roberts, for Chicago defendant Adel Daoud, and Ronald Chapman and Daniel Ecarius, for Ft. Lauderdale defendants Sheheryar Qazi and Raees Qazi, have demanded that government disclose whether any of its evidence is the fruit of warrantless wiretaps.

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