Livid Investors Launch A Volley of Lawsuits
Class-Actions Mount Despite Uncertain Payouts for Those Who Lost Money

By Nancy Trejos
Washington Post Staff Writer
Sunday, January 18, 2009

Some angry investors -- both average Americans and giant pension funds -- are not taking their massive losses quietly. Holding portfolios that have imploded from a barrage of financial time bombs, they are turning to the courts for compensation.

"Anytime people lose money, expect litigation to pick up," said John F. Sandy Smith, a partner at Morris, Manning & Martin in Atlanta.

To cut down on legal expenses and exert their power in numbers, investors are banding together in securities class-action lawsuits. Although such lawsuits are intended to make recouping losses easier, especially for the average American with a stake in a company, there are many obstacles to success. For one thing, almost half the cases get dismissed. When they do not, the process is slow and the amounts retrieved can be a fraction of what was lost. With the current cases, the amounts retrieved could get even smaller because the credit crisis has left the targeted companies with slimmer pockets.

Class-action suits are usually initiated by an individual investor who has lost a substantial amount of money or by an institutional investor, such as a pension fund. That person or institution is known as the lead plaintiff. If a class-action lawsuit is filed against a company you have a stake in, you will certainly find out. The plaintiffs' lawyers are required to issue a news release when they file. From then, you have nothing to do until, or if, there is a settlement.

In 2008, the number of federal securities class-action lawsuit filings reached a six-year high, with 267 filings. That was a 37 percent increase from the previous year, according to a recent study from NERA Economic Consulting.

Of the 255 cases filed as of Dec. 14, almost half -- 110 -- were related to the credit crisis. In 2007, there were just 40 spurred by the crisis.

Investors are claiming they have lost up to $856 billion, according to an annual report by the Stanford Law School Securities Class Action Clearinghouse and Cornerstone Research. That's a 27 percent increase over the previous year. Like NERA, Stanford also reported a significant increase in the number of class-action lawsuits filed in 2008.

Many of the actions are directed against companies in the financial industry. Joseph Grundfest, director of the Stanford clearinghouse, said he has not seen so much litigation against a single industry in more than a decade. Nearly a third of all financial firms were named as a defendant in a securities class action filed in 2008, the Stanford study found. The firms named as defendants represented more than half of the sector's total market capitalization. Among them: New Century Financial, Countrywide Financial, IndyMac Mortgage, Washington Mutual and American International Group.

The cases allege some sort of securities fraud. Grundfest said there are three main categories of cases against the financial services sector. Some plaintiffs are claiming that companies lied about the value of securities in their portfolios. Others are claiming that they lied about their underwriting practices. Still others are filing suits against firms that sold auction-rate securities, which are bonds with interest rates reset by periodic bidding, as often as every week. The market for those bonds dried up last year, leaving investors unable to access their money.

Kevin M. LaCroix, a partner at OakBridge Insurance Services, an insurance brokerage in Beachwood, Ohio, said that the largest number of lawsuits per quarter last year came in the final three months of 2008, suggesting that the trend will continue and litigation will pick up even more through 2009. In December alone, he said, there were 30 new lawsuits.

And expect a lot more lawsuits linked to alleged fraudster Bernard L. Madoff. At least seven investment groups related to Madoff have already been targeted for investor lawsuits, LaCroix said.

Given the large number of cases, there's a good chance you'll have the option to join a class-action lawsuit, if you're an investor or a shareholder in a financial services company. If you do, several legal experts said you have nothing to lose, other than what you have already lost.

"The whole purpose of the class-action device procedurally was to give the average investor an opportunity to seek recovery, because on an individual basis, it's not feasible," said Ira Press, a partner at Kirby McInerney who is representing investors in a case against Citigroup. "The out-of-pocket costs before you even get into the value of lawyer time . . . generally exceeds the value of the investment."

A securities class action usually begins with the lead plaintiff, who picks the attorneys and exerts the time and energy to keep the suit going.

Although average investors need not do anything to ensure the suit reaches a conclusion, there are ways they can keep apprised of its progress. In that regard, they do have to be proactive because the plaintiffs' lawyers are not typically required to do any reporting on developments once they've issued their press release, which can be found on any finance Web site such as Yahoo Finance. While the case is pending, shareholders and investors can monitor it on the Web site of the Stanford Law School Securities Class Action Clearinghouse or through the federal courts' electronic docket system, which is known as PACER. Accessing the information from Stanford is free, but PACER charges a small fee. Sometimes if the cases are large, the lead plaintiffs' law firms will set up separate Web sites or separate pages on their own sites.

Once there is a judgment or a settlement, the plaintiffs' attorneys are required to notify the group. At that point, the investor will have to complete a proof of claim form. The lead plaintiff receives an equal share of the settlement but in some cases can apply for a bonus payment.

Keep in mind that just because you are an investor doesn't mean you will qualify to be part of the class. "You have to have purchased and sometimes sold, depending on the nature of the claim, within the class period," said Jeff Zwerling, managing partner at Zwerling, Schachter & Zwerling in New York.

What's more, LaCroix said, the process can take up to three or four years. Even when the case is settled or won, you have to wait a few months for the claim to be processed. And expect to recoup a small percentage of your loss, maybe just 20 or 30 percent, legal experts said. Plus the attorneys, who do not charge upfront for arguing the case, will take a chunk of the settlement, as much as one-third, said Stephanie Plancich, a senior consultant at NERA.

Complicating matters is that class-action lawsuits have become harder to win in the past decade, legal experts said. The Private Securities Litigation Reform Act of 1995 stipulated that there would be no discovery, the process in which attorneys ask their opponents for legally relevant documents they in turn must produce, until after the case gets past a defendant's motion to dismiss. But in order to get over that hurdle, plaintiffs must present specific facts creating a "strong inference" that the company and its officials acted with fraudulent intent.

"You have to figure out the case before you have access to the documents that will eventually help you prove your case," said Zwerling, who is representing the lead plaintiff in a class-action case involving auction-rate securities underwritten by Citigroup.

In 2007, the Supreme Court ruled that plaintiffs have to make an even stronger argument to bring a case. So it's no wonder that about 41 percent of cases end up getting dismissed, LaCroix said.

"The mere fact that a bank or other financial services corporation suffered huge losses in the credit crisis and stock prices reacted doesn't mean it's fraud," Press said. "It's only fraud if you can show there was something about those losses that was known by the company or recklessly disregarded by the company at an earlier time and was inconsistent with the public statements the company was making."

Also, in a decision that could apply to cases relating to Madoff, the Supreme Court last year ruled that investors cannot sue third-party businesses such as law firms, accountants and banks for their role in a public company's deceptive inflating of stock prices.

If they can make it past a motion to dismiss, class-action cases tend to be strong, experts said.

"If you get past the motion to dismiss and get into the discovery phase where you can learn about the case, your odds are significantly greater," Zwerling said. "Most of these cases are resolved prior to trial . . . . You will see those cases that survive are also stronger and have much more chance of likelihood of success."

It is too soon to tell how well the credit crisis cases will do, experts said. But the settlements could end up being quite large. The median investor loss for a credit crisis case in 2008 was almost $3.5 billion, about nine times the median amount of a noncredit case filed last year, NERA found.

That said, many of the companies being sued are on the verge of bankruptcy or have been gobbled up by other firms.

"Defendants with 'deep pockets' are the ones who can afford big settlements," Plancich said. "However, the credit crisis has dramatically shrunk the size of many defendants' pockets. The financial distress faced by defendant companies could therefore pull median settlement values down."

Whatever the outcomes of these cases, Grundfest argues that class-action lawsuits do not fulfill one of their missions: to deter securities fraud. Others argue that such lawsuits drain cash and manpower from already beleaguered companies, thus hurting existing shareholders and investors.

"It's important to stop securities fraud. I'm the first person to say that," he said. "By the same token, we also need to keep an open mind and ask whether the multibillion-dollar securities fraud industry has been effective in achieving that result. Or has it been more effective at generating revenue for lawyers on the defendant and plaintiff side?"