Second Circuit Hears Appeal of Citigroup Settlement Rejection

ATTORNEY: LOUIS C. LUDWIG
POMERANTZ MONITOR, MARCH/APRIL 2013 

In a decision heard around the world – or at least around Wall Street – in December of 2011, Federal District Judge Jed S. Rakoff famously rejected a settlement between the SEC and Citigroup. The SEC claims that, during the waning days of the housing bubble, Citi misrepresented facts when it sold investors over $1 billion of risky mortgage bonds that it allegedly knew would decline in value. Investors allegedly lost about $600 million on this deal. The same day the SEC filed its complaint, in October, 2011, it also filed a proposed “consent judgment”, a settlement agreement resolving those claims. The proposed deal called for $160 million in disgorgement (of fees and profits made by Citi on the deal), plus $30 million in interest and a civil penalty of $95 million. The settlement agreement did not require Citi to admit to any wrongdoing, allowing it to “neither admit nor deny” the charges, a staple provision of government settlement agreements. In addition to the financial penalties, the settlement would permanently restrain and enjoin Citigroup from future securities laws violations and would impose court-supervised “internal measures” designed to prevent recurrence of the type of securities fraud that (allegedly) occurred here. 

In deciding whether to approve a settlement between agencies and private parties, courts typically defer to the judgment of a federal agency, and rejections of settlements are rare. But Judge Rakoff is an exception to this rule: he is no rubber stamp for SEC settlements, and has used settlements to express his disdain for the SEC’s efforts to police the securities industry. Two years earlier, in 2009, he rejected a settlement between the SEC and Bank of America. 

In his decision in the Citi case, announced on November 28, 2011, Judge Rakoff did it again. He did not accept the “no admit, no deny” provision, and held that the settlement failed to provide the court with enough facts relating to the merits of the case “upon which to exercise even a modest degree of independent judgment.” He also noted that “there is an overriding public interest in knowing the truth,” and the reminded the SEC that it “has a duty ... to see that the truth emerges.” These comments leave the distinct impression that the judge was looking for a more or less definitive resolution of the allegations against Citi, as a price of a settlement. The opinion also rejected the $285 million in financial penalties, deriding it as mere “pocket change” for a bank Citi’s size, a penalty that would not deter future misconduct. 

The ruling has roiled the securities bar, to say the least. Any across-the-board requirement that defendants admit wrongdoing, or that the “truth” be established in order to settle a case, would make many cases almost impossible to settle. Such admissions or determinations could then be used by investors to recover even more in private lawsuits. Some have argued that, forced to try almost every case, federal agencies would be overwhelmed and the wheels of justice would come to a grinding halt. 

Others (the author included) have viewed the ruling as a long-overdue comeuppance to an agency that has not done enough to punish the miscreants who precipitated the financial crisis. The penalties imposed by the settlement would have no chance at all of reining in Citi’s bad behavior. 

Both the SEC and Citi appealed Judge Rakoff’s ruling to the Second Circuit. In his October 2011 ruling, Judge Rakoff had directed the parties to be ready for trial on July 16, 2012. On December 27, 2011, the SEC, joined by Citigroup, asked him to stay all proceedings, including the upcoming trial, pending determination of their appeals. When he denied the motions, Citi and the SEC appealed that decision as well; and in March 2012, the Second Circuit not only granted the stay, it expedited the appeals, chiding Judge Rakoff: “The district court believed it was a bad policy, which disserved the public interest, for the S.E.C. to allow Citigroup to settle on terms that did not establish its liability. It is not, however, the proper function of federal courts to dictate policy to executive administrative agencies[.]” 

In August, 2012, at the court’s direction, an attorney for Judge Rakoff filed a brief with the Second Circuit on his behalf, contending that he had never sought definitive proof of wrongdoing or an admission of Citigroup’s “liability” (as the court of appeals put it) but simply wanted to see some evidence before rendering a decision on a proposed settlement allegedly backed up by that same evidence. 

On February 8, 2013, the Second Circuit heard final argument on the merits, and comments from the judges seemed to confirm the impression that the Court intends to approve the settlement. The SEC – clearly emboldened by the first ruling in its favor – characterized the lower court’s ruling as being at odds with a century of judicial practice. Federal agencies’ decisions to settle cases, the SEC said, have historically been entitled to – and received – great deference. Citigroup agreed, arguing that, with respect to federal agencies, “the scope of a court’s authority to second-guess an agency’s discretionary and policy-based decision to settle is at best minimal.” At one point Judge Raymond Lohier “asked about deference and why an Article III judge would question the judgment of an executive agency that presumably reached its decision based on a sound review of the evidence.” When Judge Rakoff’s lawyer responded that the SEC was entitled to deference – but only to the point that they are wrong – his comment did not go over well. 

This appeal has thus largely turned into a referendum on how much deference a trial court should give to an agency proposing a settlement, and the extent to which the trial court can and should do its own review of the underlying evidence in the case, to test whether the agency has abused its discretion. 

Judge Rakoff’s ruling has spurred some federal judges elsewhere to demand more information before signing off on settlements brokered by the SEC and other government agencies, and even to question whether the “neither admit nor deny” clause is appropriate. And in the wake of Judge Rakoff’s ruling the SEC itself announced that it would no longer allow defendants to “neither admit nor deny” civil fraud or insider trading charges when, at the same time, they admit to or have been convicted of criminal violations. While this policy shift would have no impact on the Citigroup case – which lacked accompanying criminal charges – observers, including Edward Wyatt, writing in The New York Times, immediately noted a connection to Rakoff’s decision, which was then less than two months old. 

While the appeal was pending, Judge Rakoff presided over a jury trial of the agency’s claims against former Citigroup executive Brian Stoker in connection with in the same transaction that sparked the SEC’s initial complaint against Citi. After a full trial on the merits of these claims, the jury cleared Stoker of all wrongdoing. At this point, Judge Rakoff had more than enough information to evaluate the SEC’s settlement with Citigroup. By then, however, the significance of the case had moved well beyond the settlement itself to the role the courts are going to play in evaluating settlements proposed by the SEC and other agencies. 

The one silver lining here should be the existence – and persistence – of a vigorous plaintiff’s bar championing the rights of defrauded investors. Despite roadblocks like the Private Securities Litigation Reform Act of 1995 (devised as a “filter” to “screen out lawsuits”), the private shareholder class action remains investors’ – and the public’s – best hope of curtailing the financial sector’s worst excesses. The Supreme Court’s recent decision in Amgen v. Connecticut Retirement Plans bodes well for the future ability of investors to pool their limited resources to seek results the federally-designated “watchdogs” at the SEC appear either unwilling or unable to attain, a situation not likely to improve through the proposed handcuffing of the very courts meant to mete out justice.

Amgen Decision Favorable for Institutional Investors

ATTORNEY: MATTHEW L. TUCCILLO
POMERANTZ MONITOR, MARCH/APRIL 2013 

In order for a court to certify a case as a class action, it must usually determine that common questions “predominate” over questions that affect only individual class members. In securities fraud actions, plaintiffs must show, among other things, that investor “reliance” on defendants’ misrepresentations can be established on a class-wide basis. Otherwise, individual questions of reliance will “predominate”. 

A quarter century ago, in the landmark decision Basic v. Levinson, the Supreme Court adopted the so-called “fraud on the market” theory to address this problem. According to this theory, if the subject company’s stock trades on an “efficient market” (e.g. the NYSE), a court can presume that the market price of that company’s stock reflects all available information, including the facts misrepresented by the defendants. All investors presumably relied on the market price in buying their shares, reliance on the fraudulent statements can be established, indirectly, on a class-wide basis. The Basic decision held that the fraud on the market presumption was rebuttable by the defendant, but until recently that was interpreted to mean rebuttable at trial, not at the class certification stage. 

As the stakes have risen dramatically in securities fraud litigation, big corporations have been trying to find ways to make it more difficult for courts to certify class actions, since their settlement leverage drops precipitously once a class is certified. In the past few years they have been arguing that classes should not be certified unless plaintiffs can actually prove, and not merely allege, at the class certification stage that common questions will be established in their favor. For example, some defendants have argued that plaintiffs should have to prove, at a hearing, that the fraud actually caused investor losses on a class wide basis (“loss causation”). Such arguments would turn a class certification procedure into a “mini trial” on issues relating to the merits of the case, which would have to be re-litigated at trial. Last year, in Halliburton, the Supreme Court rejected the argument that loss causation should have to be proven at the class certification stage. 

Now, in Amgen, Inc. v. Connecticut Retirement Plans and Trust Funds, the Supreme Court has rejected attempts to force a mini-trial on the fraud on the market contention at the class certification stage. Specifically, Amgen had argued that plaintiff should be required to prove, and not merely allege, that the fraudulent misrepresentations were material enough to affect the market price of its stock, and that it should be given a chance to rebut the basic presumption that the market price actually was affected by the fraud. If the fraud did not affect the market price, Amgen argued, plaintiff could never establish on a class-wide basis that the entire class relied on the fraudulent representations in buying their shares. Individual issues would predominate, so the argument went, making class certification inappropriate. 

In a victory for investors, the Supreme Court rejected Amgen’s arguments, holding that all a securities fraud plaintiff has to do -- at the class certification stage -- is plausibly allege facts showing that the fraud was material; and that defendants cannot attempt to rebut the fraud-on-the-market presumption at that stage in the case. 

Writing for a 6-3 majority that included Chief Justice Roberts and Justices Breyer, Alito, Kagan, and Sotomayor, Justice Ginsberg’s opinion holds that proof of materiality is not a class certification prerequisite. The question of whether fraudulent statements are material is provable (or not) through objective evidence common to all investors. Thus, even if defendants prevail on this issue at trial, they will do so in a manner that is common to the entire class, and as such, materiality is a common question to all class members. Moreover, if at trial the plaintiff failed to prove the common question of materiality, the result would not be a predominance of individual questions, but rather, the end of the litigation, because materiality is an essential element of each class member’s securities fraud claim. In that sense, the entire class lives or dies based on the common resolution of the question. 

In so holding, the majority rejected Amgen’s argument that materiality should be treated like certain other fraud on the market prerequisites (e.g., that the misrepresentations were public, that the market was efficient, and that the transaction at issue occurred between the misrepresentation and the time the truth was revealed), which do have to be proven at the class certification stage. The majority found these other issues relate solely to class certification and are not ultimate merits determinations for the entire class. It also rejected Amgen’s argument that barriers should be raised to class certification because the financial pressure of a certified class forces the settlement of even weak claims, finding it significant that Congress had addressed the settlement pressures of securities class actions through means other than requiring proof of materiality at the class certification stage. In so doing, Congress had rejected calls to undo the fraud on the market presumption of reliance. Finally, the majority noted that, rather than conserving judicial resources, Amgen’s position would require a time- and resource-intensive mini-trial on materiality at the class certification stage, which is not contemplated by the federal rules and which, if the class were to be certified, might then have to be replicated in full at trial. 

In separate dissents, Justice Thomas and Scalia expressed hostility toward certification of classes where the materiality of the alleged statements had not been established. Thomas and, in a separate concurrence, Alito also questioned the continued validity of the fraud-on-the-market theory, in light of more recent research questioning its premises. These remarks may only invite additional challenges to the fraud-on-the-market presumption itself in years to come.

Pomerantz Reaches Major Healthcare Settlement With Aetna

POMERANTZ MONITOR, JANUARY/FEBRUARY 2013 

Readers of the Monitor may recall our reports on our $250 million settlement with Health Net, followed by our $350 million settlement with United Healthcare. Both actions involved underpayments by health insurers of claims for out-of-network medical services based on miscalculations of “usual, customary and reasonable,” or “UCR,” rates. The $350 million settlement with United Healthcare represented the largest cash settlement of an ERISA healthcare class action ever. 

We continued to pursue UCR claims against other healthcare insurers, and are now pleased to report that we have reached a settlement with Aetna, Inc. This settlement, in In re Aetna UCR Litigation, pending in the District of New Jersey, will -- once it is approved by the Court -- result in the reimbursement, through three settlement funds Aetna will create, of up to $120 million to providers and plan members who were also subjected to out-of-network underpayments based on miscalculated UCR rates. 

This settlement arises out of an action that alleged that Aetna used databases licensed from Ingenix, a wholly-owned subsidiary of United Healthcare, to set UCR rates for out-of-network services. We alleged the Ingenix databases were inherently flawed, statistically unreliable, and unable to establish proper UCR rates. Aetna, United Healthcare, and a number of other healthcare insurers had agreed to stop using the Ingenix databases pursuant to settlements with the New York Attorney General in 2009 simultaneous with Pomerantz’s settlement with United Healthcare. The settlement involves Aetna’s use of other non-Ingenix-based reimbursement mechanisms as well. 

The Aetna settlement represents another successful milestone for Pomerantz’s Insurance Practice Group. We are proud of this latest success in forcing managed care companies to follow the law. This settlement provides an opportunity for providers to obtain reimbursement for monies taken by Aetna in the guise of usual, customary and reasonable payments. It brings to a successful close years of litigation on behalf of providers, for whom we have long fought against the largest health insurers in the country, including Aetna. 

Pomerantz’s Insurance Practice Group represents hospitals, provider practice groups and providers in litigation involving such issues as recoupments and offsets, internal medical necessity policies that are inconsistent with generally accepted standards, and misrepresentations of insurance coverage.

Government Goes After Insider Trading

ATTORNEY: EMMA GILMORE
POMERANTZ MONITOR, JANUARY/FEBRUARY 2013 

Whatever one thinks of the government’s record in punishing Wall Street for fomenting the financial crisis, the success rate against insider trading has been strong. Ever since Preet Bahara was appointed U.S. Attorney for the Southern District of New York in 2009, he has focused heavily on insider trading cases. In a 2010 speech to a room jam-packed with white collar criminal defense attorneys, he declared that “unfortunately from what I can see, from my vantage point as the United States Attorney here, illegal insider trading is rampant.” 

The law imposes liability for insider trading on anyone who improperly obtains material non-public information and trades based on such information, and also holds liable any “tippee,” the person with whom the “tipper” shares the information, as long as the tippee knows the information was obtained in breach of a duty to keep the information confidential or abstain from trading. Since the beginning of Bharara’s tenure in 2009, his office has secured 69 convictions or guilty pleas of insider trading without losing a single case. Many of those cases were developed jointly or in parallel with the SEC, which has commenced over 200 enforcement actions of its own since 2009. 

Critical to the prosecutors’ unblemished record of securing insider trading convictions has been the aggressive use of wiretaps and of informants. Private plaintiffs contemplating insider trading lawsuits can benefit from the treasure-trove of incriminating evidence collected by the government that private parties cannot get themselves through the normal “discovery” process. 

Of the 75 people recently charged by Bharara’s office, until now the biggest fish caught were Raj Rajaratnam, a billionaire investor who once ran Galleon Group, one of the world’s largest hedge funds, and Rajat Gupta, a former McKinsey chief and Goldman Sachs director who allegedly fed inside information to Rajaratnam. 

Wiretaps were key to the case against Mr. Rajaratnam. The case broke when prosecutors, while investigating a hedge fund owned by Rajaratnam’s brother Rengan, uncovered a slew of incriminating e-mails and instant messages between Raj and his brother, and wiretapped their conversations. In a call, Rengan told his brother about his efforts to extract confidential information from a friend who was a McKinsey consultant. Rengan referred to the consultant as “a little dirty” and touted that he “finally spilled his beans” by revealing non-public information about a corporate client. Other powerful evidence obtained from wiretapped calls was used to place Rajaratnam squarely in the forefront of the insider trading scheme: “I heard yesterday from somebody who’s on the board of Goldman Sachs that they are going to lose $2 per share,” Rajaratnam said to one of his employees ahead of the bank’s earnings announcement. 

Rajaratnam was found guilty on all 14 counts levied against him, and was sentenced to 11 years in prison and fined $10 million. It was the longest-ever prison sentence for insider trading, a watershed moment in the government’s aggressive campaign to rout out the illegal exchange of confidential information on Wall Street. He is currently appealing his conviction to the Second Circuit. 

Gupta, for his part, was accused of passing a flurry of illegal tips to Rajaratnam, including advance news that Warren Buffet was going to invest $5 billion in Goldman Sachs. Gupta received a two-year prison sentence and was ordered to pay $5 million in fines. 

More recently, in what federal prosecutors describe as the most lucrative insider trading scheme, prosecutors and the SEC filed separate insider trading charges against Mathew Martoma, a portfolio manager at CR Intrinsic Investors. CR Intrinsic is an affiliate of SAC Capital Advisors, a $10 billion hedge fund founded by billionaire Steven Cohen, one of Wall Street’s most successful and prominent investors. 

Martoma is accused of illegally trading on confidential information ahead of a negative public announcement poised to disclose the results of a clinical trial for an Alzheimer’s drug jointly developed by Elan Corporation and Wyeth Ltd. Armed with confidential information, Martoma allegedly emailed Cohen requesting that they speak (“Is there a good time to catch up with you this morning? It’s important.”). Martoma and Cohen subsequently spoke by phone for approximately 20 minutes. The next day, Cohen and Martoma instructed SAC’s senior trader to quietly begin selling the Elan position. At day’s end, the trader e-mailed Martoma that he had sold 1.5 million shares of Elan, and that “obviously no one knows except you me and [Cohen].” A few days later, the senior trader e-mailed Cohen the results of the week’s activity: “We executed a sale of over 10.5 million ELN for [four internal Hedge Fund account names] at an avg price of 34.21. This was executed quietly and effectively over a 4 day period through algos and darkpools and booked into two firm accounts that have very limited viewing access. This process clearly stopped leakage of info from either in [or] outside the firm and in my viewpoint clearly saved us some slippage.” 

From one end of Wall Street to the other, people are wondering whether Martoma, facing the likelihood of serious jail time, will “flip” on Cohen, creating probably the most sensational insider trading case ever. There is no doubt that Martoma is facing intense pressure: reportedly, when confronted by an F.B.I. agent in his front yard, Martoma fainted. If Martoma is convicted of the charges, federal guidelines call for a stiff 15-19 year sentence. And, while no SEC charges have yet been brought against Cohen, the Commission recently issued a Wells notice to SAC Capital, indicating that the staff is probably going to recommend that the SEC take action against SAC.

Companies Fight to Keep Their Political Contributions Secret

ATTORNEY: H. ADAM PRUSSIN
POMERANTZ MONITOR, JANUARY/FEBRUARY 2013 

In the wake of the Supreme Court’s 2010 Citizens United decision, which allowed corporations and unions to make unlimited expenditures for political purposes, a new battle has erupted to force companies to disclose these expenditures. Writing for the majority in that case, Justice Anthony Kennedy noted that prompt disclosure of political expenditures would allow stockholders and citizens to hold corporations accountable. Shareholders, he said, could determine whether the corporation’s financing of campaigns “advances the corporation’s interest in making profits.” But in many, perhaps most cases, disclosure and accountability are the last things that corporate managers want. 

Although dozens of major companies have voluntarily disclosed their political spending, most do not. Currently, the most common shareholder proposals submitted to public companies are those requesting information on political spending. Most, however, have not fared well. Many companies probably fear that revelation of their political expenditures would be an invitation to backlash from shareholders and others at the opposite end of the political spectrum. 

Months ago the “Committee on Disclosure of Corporate Political Spending,” headed by Professors Lucian Bebchuck of Harvard Law School and Robert M. Jackson of Columbia Law School, filed a rulemaking petition asking the SEC to adopt a disclosure rule for corporate political spending. Over 300,000 responses to this petition flooded the Commission, all but 10 of which supported it. The SEC recently announced that by April it plans to issue a Notice of Proposed Rulemaking to require disclosures of political spending. 

The Committee said that one of the main reasons for its proposal is that a significant amount of corporate political spending currently occurs under investors’ radar screen, particularly when public companies spend shareholder money on politics through intermediaries, who are never required to disclose the source of their funds. Investors clearly want to receive information about such spending. 

While we await action by the Commission, one investor, the New York State Comptroller Thomas P. DiNapoli, has taken matters into his own hands. He controls the New York State Common Retirement Fund, which holds about $378 million in stock of Qualcomm, one of the country’s largest makers of computer chips for mobile devices. After Qualcomm allegedly rebuffed his multiple requests for access to information on political spending, DiNapoli sued Qualcomm late last year in Delaware Chancery Court, seeking to allow him to review documents showing the company’s political expenditures. Mr. DiNapoli is trying to determine whether Qualcomm made corporate contributions to tax-exempt groups and trade associations that are not required to disclose their donors. Those groups poured hundreds of millions of dollars into the 2012 election, including money from large corporations seeking to avoid negative publicity or customer outcries. Although DiNapoli is a prominent Democratic politician, he cannot be accused of filing the petition for political purposes: Irwin Jacobs, Qualcomm’s controlling shareholder, is a prominent contributor to Democratic candidates and causes. 

Delaware, where Qualcomm is incorporated, has a statute that allows shareholders to gain access to corporate records, so long as they have a “proper purpose” for doing so. As we have noted previously in the Monitor, the question of what a shareholder has to show to establish a “proper purpose” has generated heated debate over the past few years, with corporations making some headway in raising the bar for shareholder access. 

Typically, shareholders have tried to gain access to company books and records to determine whether wrongdoing has occurred, such as breach of fiduciary duties by directors or executives. It is a novel question whether discovery of political activities is a proper purpose. Even if it can be a proper purpose in some cases, such as if the expenditures create some risk for the corporation, the next question is whether the investor will have to show some reason to be concerned in a particular case. Otherwise, the courts may view his request as simply a “fishing expedition.” 

The Council of Institutional Investors, an association of pension funds, foundations and endowments, supports Comptroller Di Napoli’s suit. Amy Borrus, deputy director of CII, reportedly has stated that the suit offers hope to investors stonewalled in their search for basic information about corporate political spending after Citizens United. “Shareholders have tried proxy proposals, and they’ve tried asking, but some companies are unfortunately resistant to providing basic disclosures," Borrus said Thursday. The present suit “certainly opens up a new avenue,” she said. 

If DiNapoli succeeds in obtaining this information, the next question will be whether he can publicly disclose it, allowing other shareholders and interested parties to weigh in on the appropriateness of the company’s actions.

Securities Fraud Cases Involving Foreign Companies Shift From Federal Courts

POMERANTZ MONITOR, MARCH/APRIL 2012  
BY ROBERT J. AXELROD AND MARC I. GROSS

Two years ago, in the wake of the Supreme Court’s decision in Morrison concerning the extraterritorial application of United States securities laws, we noted that most legal commentators predicted a major decline in securities litigation. In that case the Supreme Court created a bright line rule that lawsuits alleging securities fraud involving companies whose securities were traded on a non-U.S. exchange could not be brought under U.S. law. This ruling extended even to cases where the conduct at issue – such as the alleged fraudulent misrepresentations – actually took place at a company’s U.S. headquarters.
 
Of course, many institutional investors routinely purchase securities on many different exchanges throughout the world. When a company whose stock trades on a non-U.S. exchange engages in securities fraud, are investors who purchased those securities outside the United States simply out of luck?
 
Class Cases Filed in Foreign Courts
The answer is decidedly “no.” Since the Supreme Court decided Morrison, we have seen an increase in securities actions brought in jurisdictions outside the United States. Some of these are class actions, or actions similar to U.S.-based class actions. Others are individual securities actions.
 
For example, there are by our count more than two dozen active securities class actions pending in Canada. A recent report by the consulting firm National Economic Research Associates confirms that last year alone, 15 securities class actions were filed there, the most ever. Similar actions are also pending in the Netherlands, Germany, and Israel. New laws allowing class actions were passed in Mexico, and England also allows “group actions,” which can be pursued on a representative basis, just like class actions.
 
A good example of the migration of securities fraud class actions is the action against Fortis, a financial services company based in Belgium. The plaintiffs in that action – some of the largest European pension funds, which purchased their Fortis securities on a foreign exchange – initially brought a class action in the U.S., but their case was dismissed by a U.S. court under Morrison. A year later they brought their case, which mirrors the allegations of the U.S. action, in a Dutch court.
 
There are a number of differences in the procedural and substantive law in these foreign jurisdictions, of course, including how damages may be calculated, whether attorneys fees can be shifted to the losing party, the rules for defining and certifying a class, and (particularly in the case of Canada) whether, as in the U.S., discovery is going to be held up until a motion to dismiss is decided. Whether it may be worthwhile to bring a securities fraud action in a foreign jurisdiction, whether the action should see certification of a class of all similarly situated investors or be brought as an individual action, and how to litigate and win whichever action is brought, are critical questions investors should ask their securities counsel. That counsel must also have relationships with the few securities practitioners in other countries who represent plaintiffs, rather than corporate clients, and who may be willing to forego hourly fees in favor of the contingent fee structure utilized by many U.S. based securities firms who represent institutional investors.
 
Individual Cases Under State Law
 
Morrison made clear that class actions for recovery of fraud related to damages arising from purchases abroad cannot be pursued under the federal securities laws. In so doing, the Supreme Court relied principally on the text of the 1934 Exchange Act. However, there is no such textual limitation for fraud claims arising under state statutory and common law. Thus, to the extent that a domestic investor purchased shares on a foreign exchange, and relied upon materials disseminated in the U.S., the injury arose in the U.S. at the place where the purchaser was misled -- not where the trade was executed. Thus, the case could be brought under the state law where the purchaser resided.
 
By the same token, if wrongdoing that contributed to the fraud occurred in a particular state (e.g., improper accounting for revenues by a U.S. subsidiary), that state should have an interest in protecting all persons injured by the misconduct, regardless of where they reside or purchased the shares. Under this rationale, even foreign investors could bring claims under the laws of the state where the subsidiary of the corporation was domiciled. These cases must be brought individually, not on a class basis, in order to avoid the federal statutory preemption of securities fraud class actions under SLUSA. There will likely be forum-non conveniens hurdles as well, but these obstacles should be minimal if class actions are otherwise pending for those who purchased ADRs of the same company on U.S. exchanges.

"Muppet-Gate" Hits Goldman

ATTORNEY:  JEREMY LIEBERMAN 
THE POMERANTZ MONITOR, MARCH/APRIL 2012

Right on the heels of the embarrassing pasting it took in the El Paso decision discussed earlier in this issue, Goldman has been struck another blow. In an op-ed piece in The New York Times, Greg Smith, a now former Executive Director at Goldman Sachs, announced his resignation to all the world and set off a fire-storm. Burning his bridges behind him, Smith took a parting shot at the entire management of the firm, including Goldman’s CEO Lloyd Blankfein.

Smith charges that the culture of the firm has drastically changed from when he joined the firm twelve years ago, a golden age when the spirit of “teamwork, integrity . . . humility and always doing right by our clients” was the watchword at Goldman. According to Smith, the “secret sauce” of Goldman’s corporate culture was that it put its clients’ interests first.

Now, he claims, Goldman has turned into a greedy money machine, where the only possible means for advancement is lining the firm’s coffers – even at the expense of clients. Smith says that are three ways to become a leader at Goldman: 1) persuade your clients to buy products that Goldman is peddling because it wants to remove them from its own balance sheet; 2) “Hunt Elephants” – get clients to trade whatever will yield the biggest profits to Goldman; and 3) trade in illiquid opaque products which add little value to the firm’s clients.

Most memorable are Smith’s tales of Goldman employees openly bragging about ripping off their clients – whom they contemptuously refer to as simple-minded “muppets” – and “rip[ping] their eyeballs out.” According to Smith, the derivative sales meetings never focus on how Goldman can help their own clients, but rather on how to line their own pockets. The prime culprits, according to Smith, are Goldman CEO Lloyd Blankfien and President Gary D. Cohn, who lost hold of the firm’s proud 143-year-old culture on their watch.

From our vantage point, Goldman has not changed significantly in the past 12 years. What shocks is not the picture of Goldman that emerges – this is, after all, the same firm that has repeatedly run afoul of the SEC, and was famously lambasted by Rolling Stone as “a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money.” It is that anyone working for Goldman has the chutzpah to say this out loud.

As for Smith’s motives in staking out the moral high ground, time will tell. As Felix Salmon of Reuters aptly commented, if he goes on to found or join a rival company, Smith’s decision to harm Goldman will look rather self-serving. But, if he goes to work regulating all investment banks from the outside, we might start taking him more seriously.

“Collective Action” Permitted in Citibank Overtime Pay Case

ATTORNEY: MURIELLE STEVEN WALSH
POMERANTZ MONITOR, MARCH/APRIL 2012

A federal judge has conditionally certified a nationwide “collective action” in Pomerantz’s overtime pay case against Citibank, and has authorized us to send a notice to personal bankers who may have been affected by the misconduct we allege in our complaint.
 
We brought this case on behalf of Citi personal bankers (PBs) nationwide who we allege worked “off-the-clock” overtime but were not paid for it. This alleged conduct would violate the Fair Labor Standards Act (FLSA), as well as several state laws, including New York’s.
 
Under the relevant law, we had to make a “modest showing” that there are others who are “similarly situated” to our clients. Here, Citibank has at least 4,000 PBs, of whom we have been able to identify, so far, about two dozen employees who were not paid for overtime work. Citi argued that this was not enough.
 
To bolster our contention that there are a lot more PBs who were “similarly situated” we relied on evidence of dual-edged nationwide policies that created an environment that was ripe for FLSA/overtime violations. We argued that the court could infer from the existence of these policies that there are probably many more PBs who suffered the same fate as our clients. Citi had a nationwide job policy and high sales quotas that effectively forced PBs to work overtime to keep their jobs; but Citi also had a nationwide “no overtime” policy that strongly discouraged the incurring of overtime expenses. The natural result of these conflicting policies was that people worked overtime but were not paid for it, either because they were intimidated into underreporting their time, or in some instances, their managers altered their time records to show no overtime worked. Our plaintiffs testified that this in fact occurred.
 
Because the policies were carried out nationwide, it was reasonable to infer that there are many other PBs who are “similarly situated” to our clients. Citi argued that its policies were “facially lawful,” and that the court could not infer a pattern of FLSA violations simply because it had otherwise lawful policies that had conflicting goals. The Court disagreed.

Say on Pay is Having Its Day

ATTORNEY: H. ADAM PRUSSIN
POMERANTZ MONITOR, MARCH/APRIL 2012

Although only 45 companies – less than 2% of all publicly held companies – lost “say on pay” votes last year, the Wall Street Journal reports that many of those companies are going out of their way to do better this year. Jacobs Engineering and Beezer Homes, for example, have already obtained approval, after revamping executive pay, to bring it into better alignment with overall corporate performance. Beezer, in particular, got a new CEO, hired a new compensation consulting firm and adopted a new performance-based stock plan that stopped giving executives automatic restricted stock grants, and went to great lengths to consult with investors about compensation. As a result, at its annual meeting in February it received 95% shareholder approval of its pay plans. Jacobs did much the same thing (though it kept its CEO) and increased its shareholder “yea” vote from 45% last year to 96% at its annual meeting in January of this year.
 
Executive turnover at loser companies has been roughly twice the average rate. About 1 in 4 installed a new CEO after the vote, and about 1 in 5 put in a new CFO, both more than double the average turnover rate.
 
Corporate governance mavens will be looking ahead to votes later this spring at other loser companies from last year, including Hewlett Packard and Cincinnati Bell. H-P has a new CEO, Meg Whitman, who is pulling in $1 in compensation, and has reportedly held compensation discussions with 200 or so of its nearest and dearest institutional investor shareholders, in an effort to tie compensation more closely to corporate performance. Cincinnati Bell, which was sued by shareholders after losing last year’s vote, agreed to revamp disclosures and to dump its compensation consultants if it loses another say on pay vote.
 
The effect of say on pay votes is largely attributable to the attention that Institutional Investor Services (“ISS”), the proxy advisory firm, has been paying to this issue. The WSJ reports that a study published in the journal Financial Management concluded that a negative ISS recommendation on a management proposal influences between 13.6% and 20.6% of investor votes; and in 2011, ISS advised investors to vote “no” on pay proposals about 11% of the time. Some are predicting that the ISS will say “no” far more often this year than last. In one highly publicized incident, ISS got into a brawl with Disney over its pay packages. Disney won this won, by aggressively fighting back.
 
Also amplifying the impact of “say on pay” votes is the SEC ruling that executive compensation matters fall into the “Broker May Not Vote” category under its Rule 452. That means that brokers, who tend to vote reflexively with management, cannot vote shares held by their investor customers, if those customers have not sent them instructions on how to vote. This means that companies will have to work that much harder to secure investor “yea” votes on compensation.