Business Litigation: A Look Into 2012

Same story, different year: a volatile market, tough regulatory environment, and enforcement actions against big banks will dominate business litigation in 2012.

“We're now at the tail-end of financial credit-crisis related cases,” says Michael Stocker, a partner at law firm Labaton Sucharow. Taking their place, however, are several new types of litigation, much of which continues to target the financial services industry, such as the cases based on sloppy foreclosure practices.

Since last year, a multi-state alliance of attorneys general has been working with the nation's largest banks to reach a settlement over fraudulent and carelessly conducted foreclosure-related practices. But that plan could be squelched as some states are bowing out to file their own lawsuits.

Massachusetts, for example, decided to go it alone in December.  Attorney General Martha Coakley filed a consumer protection lawsuit against five major mortgage lenders—Bank of America, J.P. Morgan Chase, Wells Fargo, Citigroup, and Ally Financial—in connection with their roles in allegedly pursuing illegal foreclosures.

The lawsuit also names as a defendant Mortgage Electronic Registration System (MERS), the mortgage registry used and abused by lenders to circumvent local land recording registries. In addition to Massachusetts, California and New York are weighing plans to opt out of the multi-state settlement and pursue their own cases.

It's not just state regulators that the financial services industry has to worry about, as shareholders are also bringing large cases against the big banks. “I still think the big deal in the marketplace today is mortgage-backed securities and derivatives,” says Richard Rosenfeld, co-leader of the U.S. securities litigation and enforcement group of Mayer Brown and former chief investigative counsel in the Office of the Special Inspector General for the Troubled Asset Relief Program. “Those will be very hot areas at least over the next year.”

In the latest case, Bank of America agreed to pay a record $315 million last month to settle claims involving mortgage securities issued by Merrill Lynch.

Other companies that agreed to multi-million mortgage-backed securities settlements include Wells Fargo ($125 million); Deutsche Bank ($145 million); and Citigroup ($20.5 million).

As long as banks keep dropping “bombshells,” they will continue to be “piñatas for shareholder lawsuits,” Stocker says. He cites as an example the recent revelation made by Bank of America that the bank knew seven months in advance about its $10 billion pending lawsuit with American International Group but never made any mention of it in quarterly filings or investor calls.

Institutional investors are also filing cases against custodial banks for foreign exchange abuses. Traditionally, defense attorneys have been the ones to file such lawsuits because they generally have the business and financial market expertise needed to litigate those sorts of cases, Stocker says, but more recently plaintiffs' lawyers are also getting into the act. “They've come to acquire the kind of market sophistication needed to litigate these cases. That's a trend I see continuing in 2012,” he says.

Securities Class Actions

One bright spot: Securities class actions appear to be on the decline. According to the latest report published by Cornerstone Research and the Securities Class Action Clearinghouse at Stanford University, a total of 94 federal securities fraud class actions were filed in the first half 2011, representing a 9.6 percent decrease from the 104 filings in the second half of 2010. This decline includes a drop in credit-crisis filings, with just two such filings in the first half of 2011, the report states.

Legal experts attribute part of the drop in securities class-actions to the Supreme Court's decision in Ashcroft v. Iqbal handed down in May 2009, which sharply raised the standard for what plaintiffs must demonstrate to pursue a case in court.

“I do think as the M&A market picks up you will see a corresponding uptick in mergers and acquisitions litigation, especially in Delaware.”

—Michael Stocker,

Partner,

Labaton Sucharow

Of the cases that are filed, mergers and acquisitions are getting more attention. According to the Cornerstone Research report, there were 21 traditional M&A filings in the first half of 2011, which constituted 22.3 percent of all filings. A decline in the number of mergers, however, may be keeping those numbers in check. Many expected 2011 to be a “huge year” for M&A activity, says Stocker, but the volatility in the markets took its toll and a lot of deals got put on the sidelines. “I do think as the M&A market picks up you will see a corresponding uptick in mergers and acquisitions litigation, especially in Delaware,” he says.

Reverse mergers are also attracting class-action plaintiffs' lawyers. “The flavor of the month seems to be cases against Chinese companies,” Stocker says. In fact, the Cornerstone Research report found that 24 filings related to Chinese reverse mergers, accounting for 25.5 percent of all filings in the first half of 2011.

How successful the outcome of these cases will be, however, is questionable, mostly because these companies' business activities and assets reside in China, Stocker says. “You may wind up getting a judgment against the company but no way to collect it,” he says.

Lawyers are also pursuing those who advise such companies. Succeeding in these cases may be possible where U.S. auditors or underwriters are involved, “where you have a domestic hook,” Stocker says.

Shareholder litigation is likely to spring from mergers involving “contingent value rights”, says Stocker. In these transactions, a deal is struck at a relatively low price, with shareholders of the target company getting some cash up front with the promise of more, depending on the performance of the target company. “They are accepting a lower price in hopes that things will work out in the future,” says Stocker. “Those kinds of devices are going to make their way into M&A litigation also.”

Dodd-Frank Implications

The Dodd-Frank Act could also be a source of securities litigation. Firms that bring securities suits are watching rulemaking on the Volcker rule very closely, says Stocker. One of “the most important” issues is whether chief executives officers should be obliged to certify compliance with the Volcker rule. “It's not unlike the certification rules that exist under the Sarbanes-Oxley act of 2002, and it strikes terror into the hearts of CEOs because it really puts their feet to the fire,” says Stocker.

Another new type of litigation that has emerged—and likely will continue in 2012—is cases against credit rating agencies. For example in Genesee County Employees' Retirement System et al v. Thornburg Mortgage Securities Trust investors filed claims against credit rating agencies Moody's, Fitch, and Standard & Poor's for botched ratings during and after the credit crisis. So far, the ratings agencies have invoked First Amendment protections. The underlying argument by the rating agencies is that they shouldn't be liable for issuing inflated ratings, because credit ratings essentially are opinions that should be subject to First Amendment protections.

In that case, New Mexico U.S. District Judge James Browning in a 273-page opinion rejected the rating agencies' arguments. “That may encourage some individuals—institutional investors, especially—to pursue claims against credit rating agencies, where they have been reluctant to do so in the past,” says Stocker.

Supreme Court

While legislative and enforcement actions are heating up, 2012 is, so far, a slow year in terms of business litigation cases coming out of the U.S. Supreme Court.

Among one of the significant business case of the year, thus far, will be the decision handed down Kiobel v. Royal Dutch Petroleum. This case will attempt to answer the question of whether companies may be held liable for human rights abuse violations that occur abroad under the Alien Tort Statute.

Kiobel is “obviously going to be hugely significant—both in terms of the issue of corporate liability, but also in terms of providing guidance on how lower courts should resolve other issues under the ATS,” says Andy Pincus, a partner with law firm Mayer Brown.

All told, however, with regulators and legislators promising to continue their aggressive enforcement stance, 2012 promises to be an eventful year in the world of corporate litigation.