It has been a long journey for the IPO allocation cases, but it looks like the end is in sight. The parties have filed a global settlement agreement (issuers and underwriters) with the court. The settlement amount is $586 million, a sharp decline from the amounts being considered prior to the Second Circuit's decision to deny class certification in some representative cases.
Could this be the final post on the IPO allocation cases (6 years and 17 posts later)? Don't despair - there's always the possibility of an attorneys fees dispute. Counsel for the plaintiffs is requesting $195.3 million in fees on top of $56 million in expenses. The WSJ Law Blog and Bloomberg have reports.
The Wall Street Journal reports that there may be a settlement in the IPO allocation cases. Although it is not entirely clear from the press coverage, it appears that the parties are contemplating a global settlement (including issuers and underwriters) for less than $700 million. A settlement at this level would be a significant drop from the amounts being considered prior to the Second Circuit's decision to deny class certification in some representative cases. Additional coverage can be found in the AmLaw Daily and Bloomberg.
While The 10b-5 Daily was on break last week, there were interesting developments in two of the biggest ongoing securities litigations.
(1) On Friday, the U.S. Court of Appeals declined to reconsider its class certification decision in the IPO allocation cases. The Associated Press has an article and the ruling can be found here (via WSJ).
Quote of note (ruling): "The Petitioners, having sought a broad class, are essentially complaining that we failed to narrow their class definition to an extent that might have satisfied Rule 23 requirements. Whatever authority we might have had to undertake that task, we did not think it appropriate to provide legal advice to experienced class-action litigators."
(2) Meanwhile, the plaintiffs in the Enron securities class action are attempting to appeal the denial of class certification by the U.S. Court of Appeals for the Fifth Circuit related to their claims against Enron's banks. A cert petition (via WSJ) was filed with the U.S. Supreme Court on Thursday. Among other things, the petition argues that the case is a "suitable companion" to the Charter Communications case the Court will hear next term. The media coverage includes articles by the Associated Press and Houston Chronicle.
Quote of note (cert petition): "This case is especially significant because it involves the alleged misconduct of banks – major actors in our nation’s financial markets and the banks that Central Bank identified as secondary actors who nonetheless 'may be potentially liable as primary violators under Rule 10b-5 in any complex securities fraud [where] there are likely to be multiple violators.'"
In an opinion issued in the IPO allocation cases, the Second Circuit has held that in evaluating a motion for class certification under Federal Rule of Civil Procedure 23, district judges must receive and review enough evidence to be satisfied that each requirement of Rule 23 is met, even if there is some overlap between class certification and the merits of a case. The court cautioned that while district judges must reach a full "determination" (but not a finding) regarding fulfillment of the class certification requirements, they should avoid reviewing any aspects of case merits that are unrelated to those requirements. The decision brings the Second Circuit's jurisprudence on class certification into line with the majority of federal appellate courts (including the Fourth, Fifth, Seventh, Eighth and Eleventh Circuits).
More importantly (at least for securities litigators), the court went on to decide whether class certification could be granted in the representative IPO allocation cases at issue. The Second Circuit held that, under the new, stronger standard, the plaintiffs were unable to satisfy the predominance of common questions over individual questions requirement for a Rule 23(b)(3) class action. Accordingly, the court vacated the district court's order granting class certifications and remanded the case for further proceedings.
Although the court's class certification analysis is short, it contains two interesting holdings.
Reliance: The court held that the "fraud on the market" presumption could not be applied because the market for IPO shares cannot be efficient under any circumstances. Interestingly, the court cited the Sixth Circuit's decision in Freeman v. Laventhol & Horwath, 915 F.2d 193, 199 (6th Cir. 1990) in support of this position, even though Freeman is a case about newly traded municipal bonds, not securities traded on a national exchange. The court went on to find that an efficient market cannot be established, for example, because during the 25-day "quiet period" analysts cannot report publicly concerning securities in an IPO and a “significant number of reports by securities analysts” is a "characteristic of an efficient market." Finally, the court reiterated its skepticism (also found in an earlier Second Circuit decision related to the WorldCom securities litigation) that the fraud on the market presumption can be applied in cases based on anything other than statements by an issuer or its agents.
Knowledge: For both Rule 10b-5 and Section 11 claims, plaintiffs must show that they traded without knowing that the stock price was affected by the alleged false or misleading statements. The Court held that lack of knowledge could not be established in the IPO allocation cases because many of the investors were fully aware of the alleged fraudulent scheme (due in large part to the unusual facts of the case). Thus, the court held that the plaintiffs were unable to fulfill the predominance requirement because lack of knowledge was not common throughout the class.
Reports on the decision and its potential impact on the proposed settlement by the issuer defendants can be found in the American Lawyer, Wall Street Journal (subscrip. req'd), and WSJ Law Blog. There is also a Bloomberg article on dissension among the plaintiffs' firms handling the litigation.
Over the weekend, the Wall Street Journal had an article (via wsj.com - subscrip. req'd) on the IPO allocation cases. The article discusses the potential impact of the proposed JPMorgan settlement on the overall recovery for investors.
Quote of note: "After J.P. Morgan Chase & Co. agreed in recent days to pay $425 million to settle its part of the civil charges, estimates of the potential amounts that investors could get back have jumped and could reach several billions of dollars, plaintiffs' lawyers say. That could make the case among the biggest brought against major Wall Street firms related to a series of scandals earlier this decade, including the collapse of companies such as Enron and WorldCom. Some plaintiffs' lawyers say they now expect a higher recovery for investors partly because the amount that J.P. Morgan -- the first of the banks to settle the case -- agreed to pay is surprisingly large, given that the IPOs the company led accounted for less than 10% of the total damages calculated by the plaintiffs."
JPMorgan Chase & Co. (NYSE: JPM) has entered into a settlement of the claims against the company in the IPO allocation cases. The settlement is for $425 million. JPMorgan is the first underwriter defendant to settle.
(a) There is already plenty of speculation that JPMorgan's decision to settle early is the result of the fact that it was forced to pay a significant premium when it was the last major bank to settle in the WorldCom case.
(b) Based on the size of this settlement and the fact that there are still 54 underwriter defendants, it appears unlikely that the issuer defendants (who entered into a conditional settlement nearly three years ago) will have to make any payments.
Judge Scheindlin (S.D.N.Y.) has issued two loss causation decisions in an offshoot of the IPO allocation cases.
In the case in question, the plaintiffs alleged a scheme by an investment bank and several issuers to systematically set the issuers' announced earnings forecasts below internal forecasts. When earnings consistently beat the announced forecasts, the resulting excitement in the market allegedly drove the issuers’ stock prices up. According to the complaint, the scheme was ultimately revealed to the market through a series of announcements disclosing that earnings were below expectations or warning that future earnings would not meet expectations. These announcements allegedly ended "the fraudulently induced expectation of continuing upside surprises."
In In re Initial Public Offering Sec. Litig., No. MDL 1554(SAS), 2005 WL 1162445 (S.D.N.Y. May 13, 2005), the court responded to a motion for reconsideration of an earlier dismissal of the claims by rejecting the plaintiffs' reliance on the announcements because they were not "corrective disclosures." The court explained that "[t]o allege loss causation, plaintiffs must allege that, at some point, the concealed scheme was disclosed to the market." None of the disclosures relied on by the plaintiffs, however, implied that there had been a fraudulent scheme.
In response to a second motion for reconsideration, Judge Scheindlin issued another decision. In In re Initial Public Offering Sec. Litig., 2005 WL 1529659 (S.D.N.Y. June 28, 2005), the court noted that the Supreme Court's Dura opinion "did not disturb Second Circuit precedent regarding loss causation." After a lengthy discussion of how to reconcile this sometimes contradictory Second Circuit precedent, the court again found that loss causation had not been adequately plead.
The June 28 decision is the subject of a New York Law Journal article (via law.com - free regist. req'd).
The plaintiffs and the issuer defendants in the IPO allocation cases have obtained preliminary court approval of their $1 billion settlement, originally agreed to back in June 2003. The cases were brought against nearly 300 companies and 55 investment banks involved in initial public offerings during the tech boom. The plaintiffs generally allege that the defendants ramped up trading commissions in exchange for providing access to IPO shares and required investors allocated IPO shares to buy additional shares in the after-market to help push up the share price. The Washington Post has an article on the court's decision.
Quote of note (Washington Post): "'Despite the apparent magnitude of the billion-dollar guarantee, this settlement is not solely -- or even primarily -- about monetary recovery,' Scheindlin said. The judge said the real value is in the companies' agreement to aid the investors' suits against the banks. The start-ups also agreed to allow investors to file suits to pursue the companies' claims that the banks didn't raise enough money in the IPOs. 'The value of each of these benefits should not be understated,' Scheindlin wrote. The Internet companies 'know far better than the plaintiff classes precisely what occurred in the period leading up to and including their IPOs.'"
Reuters reports that the S.D.N.Y. court presiding over the IPO allocation cases has granted class certification in six "focus" cases that have been used to test the sufficiency of the overall allegations. The plaintiffs have sued underwriters in connection with over 300 initial public offerings. The cases generally allege that the defendants ramped up trading commissions in exchange for providing access to IPO shares and required investors allocated IPO shares to buy additional shares in the after-market to help push up the share price.
Quote of note: "U.S. District Judge Shira Scheindlin said that if she had rejected the class action request, the companies 'would have essentially defeated the claims without ever having been compelled to defend the suits on the merits. In their zeal to defeat the motion for class certification, defendants have launched such a broad attack that accepting their arguments would sound the death knell of securities class actions.'"
Will the IPO allocation cases be granted class certification? It seems likely, but the S.D.N.Y. has asked the plaintiffs to provide the court with more information before it will let them proceed against the 55 investment banks named in the suits.
According to a Reuters report, Judge Scheindlin issued an order on Monday giving the plaintiffs two weeks to "redefine the class and convince the court that the definition is adequate." Moreover, one of the plaintiffs' primary claims is that the investment banks engaged in "laddering," a practice in which the banks allegedly handed out IPO shares to buyers who promised to buy more shares at higher prices once the stocks began trading publicly. The alleged goal was to put additional upward pressure on the stock prices. As to these claims, the court stated that the plaintiffs "should report within three weeks on how an expert would measure what effect, if any, was exerted on stock prices" by the alleged laddering.
Quote of note: "In her order, Judge Scheindlin said the court record on whether to grant class status is insufficient in two ways and set tight deadlines for plaintiffs to fill in the gaps. 'Plaintiffs' failure to adequately respond to either aspect of this order may result in denial of the pending motions' seeking class certification, the order said."
The WorldCom and Initial Public Offering securities litigations in the S.D.N.Y. are generating judicial opinions on a wide variety of topics, with the plaintiffs frequently getting the better of the argument. Two more opinions have come down from Judge Scheindlin in the IPO allocation cases over the holidays.
Discovery of Wells Submissions
On December 24, the court issued an opinion and order addressing whether "Wells submissions" to the SEC are discoverable in subsequent litigations. The target of a SEC investigation is permitted to file a written submission, known as a Wells submission, with the agency to respond to contemplated charges. The plaintiffs were seeking discovery of Wells submissions made by the underwriter defendants in connection with the SEC's investigation of the same IPO allocation practices at issue in the current litigation. Although the Wells submissions contained offers of settlement, the court found that they are not "settlement material" and, in any event, they are relevant to the current litigation and therefore discoverable.
Quote of note: "Offers of settlement, however, are not intrinsically part of Wells submissions, which were intended to be 'memoranda to the SEC presenting arguments why an enforcement proceeding should not be brought.' To the extent that a respondent may make a settlement offer, that offer is typically clearly identified and thus easily severable from the remainder of the submission."
Holding: The underwriter defendants are ordered to produce their Wells submissions to plaintiffs on or before January 20, 2004.
On December 31, the court issued an order and opinion addressing a motion for judgment on the pleadings by the underwriter defendants. The underwriter defendants argued that the Rule 10b-5 claims against them should be dismissed in light of the Second Circuit's recent decision on the pleading of loss causation in securities fraud cases. In Emergent Capital, the Second Circuit held that allegations of artificial price inflation, without more, do not suffice to plead loss causation. (The 10b-5 Daily has posted about the decision and the current circuit split on this issue.)
In the IPO allocation cases, the underwriter defendants "allegedly required or induced their customers to buy shares of stock in the aftermarket as a condition of receiving initial public offerings stock allocations." This conduct allegedly caused the plaintiffs to purchase the stock at an artificially inflated price. The plaintiffs have brought claims, based on different provisions of Rule 10b-5, for (1) market manipulation and (2) material misstatements and omissions.
Although the Emergent Capital decision requires more than price inflation to adequately plead loss causation (e.g., a corrective disclosure revealing the fraud and causing a stock price decline), the court noted that it is a material misstatements and omissions case. Market manipulation, the court argued, is simply different.
"A market manipulation is a discrete act that influences stock price. Once the manipulation ceases, however, the information available to the market is the same as before, and the stock price gradually returns to its true value. . . In market manipulation cases, therefore, it may be permissible to infer that the artificial inflation will inevitably dissipate. That being so, plaintiffs' allegations of artificial inflation are sufficient to plead loss causation because it is fair to infer that the inflationary effect must inevitably diminish over time. It is that dissipation -- and not the inflation itself -- that caused plaintiffs' loss."
The court offers no citations for this analysis and it certainly reaches some broad (and potentially controversial) conclusions. As for the remaining misstatements and omission claims, the court concedes that Emergent Capital is directly on point, but simply bootstraps the claims into its earlier loss causation analysis: "The content of Underwriters' misstatements was, in essence: 'this is a fair, efficient market, unaffected by manipulation.' In fact (according to plaintiffs), the market was manipulated. For the reasons discussed  above, that market manipulation was a cause of plaintiffs' loss. Therefore, the misstatements that concealed that manipulation also were a cause of plaintiffs' loss." But if the plaintiffs have brought separate fraud claims based on alleged misstatements, don't they need to establish that the alleged misstatements, separate and apart from the market manipulation, caused a loss? Apparently not.
Holding: Motion for judgment on the pleadings denied.
The Associated Press reports that District Judge Pauley of the S.D.N.Y. has dismissed two class actions alleging price-fixing in connection with high-tech initial public offerings. The anti-trust cases, brought in 2001 against ten investment banks, addressed the same claims of stock price manipulation and commission kickbacks as in the related IPO allocation cases. The article states "Pauley ruled Monday that the charges made by investors in the suits are immune from antitrust law and fall to federal securities regulators to decide."
Addition: Judge Pauley's decision can be found here.
Securities Litigation Watch has a post on a decision by Judge Scheindlin of the S.D.N.Y. to reduce the proposed attorneys' fees in the Independent Energy Holdings case from 25% to 20% of the recovery. The court evidently "suggested that the contingency risk asserted by plaintiffs' counsel as part of the justification for fees is 'often inflated.'"
It is difficult to figure out the best methodology for measuring contingency risk. Judge Scheindlin appears to have cited overall settlement rates for securities class actions, but that statistic does not provide much information about the contingency risk faced by a plaintiffs' firm in the particular case before the court. (Securities Litigation Watch also notes that the overall settlement rates used in the decision appear to be out-of-date.)
In any event, Judge Scheindlin's willingness to reduce the requested attorneys' fees in a securities class action settlement may be a source of concern for the plaintiffs' bar. The judge presides over the IPO allocation cases, where the investors are already guaranteed a recovery of at least $1 billion. (See this post in The 10b-5 Daily.)
The Associated Press has a lengthy interview with Mel Weiss of Milberg Weiss, the leading plaintiffs' securities class action firm.
Quote of note:
Interviewer - "How big was the $1 billion settlement for ordinary investors in the IPO fraud case in your view? How much do you hope to get from the brokerages?"
Weiss - "The billion dollars is an expression of concern that these allegations are real and could give rise to staggering liability. It simplifies the litigation in that we can focus our attention on the conduct of the investment banks. The interesting part here is how much broader our inquiries will be than the government's has been because we're covering 55 banks, not 10. It's going to be far more fascinating to demonstrate that the conduct we allege to be serious violations of the law was widespread throughout the entire industry. ... I would be very disappointed if we don't achieve multiple billions (in recovery)."
The San Jose Mercury News ran a story yesterday on the proposed settlement by the issuer defendants in the IPO allocation cases. The author states that investors should not expect a quick or large recovery. The 10b-5 Daily has an earlier post on the settlement terms.
Quote of note: "Like many average IPO investors, Gallagher is hazy on exactly what iBeam or its investment bank was alleged to have done wrong. But he feels he deserves a cut of the settlement anyway. 'I feel I deserve it because, well, I'm not certain why,' Gallagher said sheepishly. 'Nobody talked me into it, that's for sure. The opportunity was there, and I decided to go for it.'"
The big news today is the proposed settlement for $1 billion of the more than 300 cases against companies who made initial public offerings of their shares in the high-tech boom years. The cases, known as the "IPO Allocation" cases, were previously consolidated in the S.D.N.Y. Plaintiffs have alleged, as summarized by Reuters, that the issuers and/or their underwriters "manipulated the market with optimistic research; ramped up trading commissions in exchange for access to IPO shares; and that investors allocated IPO shares were required to buy shares in the after-market to help push up the share price."
The key to the settlement, however, is that the companies and their insurers may never have to pay a dime. Indeed, they may even get to recoup their costs for defending against the litigation to date. A Bloomberg article on the proposed settlement explains that the companies are only liable for the difference between $1 billion and what the plaintiffs are able to collect from the underwriter defendants. In other words, if the plaintiffs recover more than $1 billion from the underwriter defendants, the companies will not have to make any payment. If the plaintiffs recover more than $5 billion from the underwriter defendants, the companies will actually be able to recover various expenses associated with the litigation. In return, the companies appear to have assigned any related claims they may have against the underwriters to the plaintiffs.
An article in today's Wall Street Journal (subscription required), reports that Judge Scheindlin (S.D.N.Y.) has ordered UBS Warburg, despite the brokerage firm's concern about excessive cost, to pay for the retrieval of certain e-mails relating to an employment discrimination case. The authors speculate that the ruling will be cited in future investor class action suits to justify requiring Wall Street firms to pay for extensive e-mail discovery. Although the article specifically mentions the IPO allocation cases, it inexplicably fails to note that these cases are, in fact, before Judge Scheindlin.
Quote of note: "The judge set out a new standard for determining when a defendant must produce e-mails that includes such factors as 'the importance of the issue at stake in the litigation' and how much the retrieval will cost 'compared to the amount in controversy.'"