SEC Is Questioning Mutual Funds About Claim Filings

By Ted Allen, Managing Editor

Mutual fund managers, hit with investor lawsuits over their alleged failure to file securities settlement claims, now face a fact-finding probe by the U.S. Securities and Exchange Commission.

The SEC's Office of Compliance Inspections and Examinations has sent out a series of letters to mutual fund companies. The letters seek information on the funds' policies for determining whether to participate in a securities class action against companies they invest in. The letters also request information on the total amount of settlement money the funds have collected in 2003 and 2004.

The inquiry could lead the SEC to issue a new rule regulating how mutual funds should participate in class actions, said Janaya Moscony, president of SEC Compliance Consultants of Philadelphia.

"If they find that a large number of fund advisers haven't been filing claims for large amounts of money, then the SEC may issue its findings or a rule-making," Moscony told SCAS Alert.

Investor Lawsuits
Many of the largest fund companies--including Janus, American Funds, Dreyfus, MassMututal, Putnam, Vanguard, Merrill Lynch, Neuberger Berman, Wells Fargo, and Van Kampen--were sued in early January by investors who claim the fund managers failed to collect as much as $2 billion in settlement payouts. Investors filed more than 40 lawsuits around the country, alleging that the funds' failure to claim this money in the past three years was a breach of fiduciary duty, negligence and in violation of the Investment Company Act of 1940. [For more on these lawsuits, see the commentary by Bruce Carton in the February 2005 issue of the SCAS Alert.]

Class-action lawsuits have generated almost $20 billion in settlements during the past five years, according to SCAS data. Despite that recovery, less than 30 percent of institutional investors with provable losses file claims, according to research by Professor James Cox of Duke University and Professor Randall Thomas of Vanderbilt University.

There are many reasons why mutual funds and other institutional investors fail to file claims, Cox and Thomas note in a draft paper.

"We learned that most institutions relied on their custodian banks to file claims for them in securities fraud class action settlements, that many of these institutions did little monitoring of whether the custodian actually performed these services, and that custodians had financial disincentives to file claims on behalf of their clients," the professors wrote in a summary of their paper, "Letting Billions Slip Through Your Fingers: Empirical Evidence and Legal Implications of the Failure of Financial Institutions to Participate in Securities Class Action Settlements." To see a draft of the paper, go to: http://www.issproxy.com/pdf/LeavingMoneyontheTableII012805.pdf

SEC Letters
It is not clear whether the investor lawsuits prompted the SEC probe. The suits were filed the week of Jan. 10. The SEC letters were dated Jan. 18, according to Moscony and a Feb. 3 article by Ignites, a trade publication that covers mutual funds.

Moscony said she was told by SEC officials that the letters were sent to a random selection of fund managers and investment advisers. The SEC letters do not mention the investor lawsuits against the fund managers.

In the letters, the SEC seeks the following information:

• A description of the process used to identify situations in which clients may be eligible to become a member of the class and participate in any settlement or judgment arising from a class action lawsuit, including a discussion of the steps taken and factors considered in deciding whether or not to participate;

• Written policies and procedures for determining whether clients should become a member of a class and participate in settlements or judgments arising from class action lawsuits, including the process for determining eligibility and filing proofs of claim;

• The number of class action recoveries the adviser has participated in and total amount of recoveries by clients during the period Jan. 1, 2003, to Dec. 31, 2004; and

• The total number of class-action lawsuits for which clients were eligible, but the adviser chose not to file a proof of claim during the period Jan. 1, 2003, to Dec. 31, 2004.

And the letters stated that "additional documents may be requested during the course of our review."

Moscony said "it's hard to say" what will happen with the probe. The SEC has undertaken similar investigations to gather information and then decided not to disclose the results to the public or take regulatory action, she said.

Those fund managers that don't have written policies on class-action lawsuit claims likely will prepare written procedures as a result of this SEC probe, Moscony told Ignites.

Likewise, Professor Cox said he expects that the SEC probe will prompt more fund managers to review their policies for participating in class actions.

"My feeling is that it's a good idea for the SEC to make this inquiry to make sure the fund industry is on its toes," Cox told SCAS Alert.

Wider Problem
At the same time, Cox cautioned that other institutional investors besides fund managers have failed to file claims. While he and Thomas have not formally examined which particular types of investors are less likely to file, Cox said he recalls that he frequently saw the names of major fund families when he was reviewing settlement documents.

"It's not clear to me that mutual funds are overly represented among those who do not file," Cox said. "They may not be stepping forward to be lead plaintiffs . . . but I don't believe they are foot-dragging."

For all institutional investors, settlement claims filing has become more pressing issue.

"The one-two punch of the mutual fund lawsuits and the SEC probe have opened a lot of institutions' eyes about the importance of monitoring and filing claims in securities class action settlements," said Bruce Carton, ISS vice president and executive director of Securities Class Action Services. "Nobody is ignoring this issue anymore."

Commentary: Introducing the Top 100 Settlements Report By Bruce T. Carton, ISS Vice President and Executive Director, Securities Class Action Services

This month, ISS' Securities Class Action Services is releasing a new report on the top 100 securities class action settlements of all-time, ranked by the total value of the settlement fund.

The list is a fascinating way to gauge settlements through the years and to place new settlements in context as they are announced. Leading the list is the $3.1 billion settlement fund in the Cendant case that was finalized in 2000. Close on its heels is Citigroup's $2.575 million settlement fund in the WorldCom case that was finalized in 2004. Only final settlements (approved by the court) are included on this list, so several recent blockbuster settlements such as the $960 million in the McKesson HBOC litigation are not yet listed. We will be updating this list regularly, however, so look for McKesson, some of the recent Enron settlements and several others to be added in the near future. For a look at the Top 10, please see the chart at the start of this month's issue.

The Top 100 Settlements Report also breaks down these settlements by several interesting categories, including law firm and claims administrator. A review of lead counsel in the Top 100 settlements, for instance, reveals that the now-split firm of Milberg Weiss Bershad Hynes & Lerach was lead or co-lead counsel in 33 of the Top 100 settlements. Next on our law firm list was Bernstein Litowitz Berger & Grossmann (17 settlements), followed by Barrack Rodos & Bacine; Berger & Montague; and Berman DeValerio Pease Tabacco Burt & Pucillo in a three-way tie for third place with 8 settlements each.

Looking at the claims administrators who have handled the Top 100 settlements, Gilardi & Co. (34 settlements) leads the way, followed by The Garden City Group (25 settlements) and Heffler Radetich & Saitta (11 settlements).

The Top 100 Settlement Report contains a host of other information, including institutional lead plaintiffs involved in the cases, settlement dates and courts. The Top 100 Settlement Report will be distributed via e-mail today to our clients as a small thank you for your business, and will be updated regularly.

TENTATIVE SETTLEMENTS

TXU Corp.
TXU Corp. has agreed to pay $150 million to settle a lawsuit filed in October 2002 in U.S. District Court for the Northern District of Texas. Investors who purchased TXU securities from Apr. 26, 2001, to Oct. 11, 2002, likely will be eligible to take part in the settlement.

The investors alleged that company officials misrepresented that TXU could succeed in the competition created by deregulation and also stated that TXU's European operations were improving. On Oct. 4, 2002, TXU issued an earnings warning, citing customer attrition and ongoing problems in Europe. The lawsuit also claimed that company officials concealed TXU's liquidity problems.

TXU is an energy company with operations in North America, Europe and Australia.

Deutsche Telekom AG
Deutsche Telekom AG and several other defendants have agreed to pay $120 million to settle litigation filed in December 2000 in U.S. District Court for the Southern District of New York. Investors who purchased Deutsche Telekom stock from June 19, 2000, to Feb. 21, 2001, likely will be eligible to take part in the settlement.

The investors allege that the Defendants issued a registration statement and prospectus that contained materially false and misleading information and omitted material information regarding discussions between Deutsche Telekom and VoiceStream Wireless Corp. concerning a possible merger. In addition, the registration statement and prospectus overstated the value of Deutsche Telekom's real estate portfolio by at least two billion euros at the time of the public offering of 200 million shares of Deutsche Telekom stock.

Deutsche Telekom AG is a provider of telecommunications services.

ImClone Systems Inc.
ImClone Systems Inc. has agreed to pay $75 million to settle a class-action lawsuit filed in January 2002 in U.S. District Court for the Southern District of New York. Investors who purchased ImClone stock from May 12, 2001, to Jan. 9, 2002, likely will be eligible to take part in the settlement.

The lawsuit alleges that defendants made materially false and misleading statements about the efficacy of Erbitux, a new drug for the treatment of cancer, and the progress of the company's application for the Food and Drug Administration's approval of Erbitux.

ImClone is a biopharmaceutical company developing novel therapeutic products.

DISMISSALS

Ford Motor Co.
A class-action lawsuit by Ford Motor Co. investors has been dismissed. The lawsuit was filed in January 2002 in federal court in New York.

The investors alleged that company officials issued misstatements regarding Ford's metals contracts and did not disclose that Ford's management purposely failed to hedge large commitments to purchase platinum, rhodium or similar commodities at very high prices and that the decline in the prices of such commodities would hurt Ford's business and prospects.

Ford, the No. 2 U.S. automaker, designs, manufactures and services cars and trucks.

PetMed Express Inc.
A class-action lawsuit by PetMed Express Inc. investors has been dismissed. The lawsuit was filed in August 2004 in U.S. District Court for the Southern District of Florida.

The investors alleged that company officials issued a series of statements to the market regarding PetMed's financial results but failed to disclose that the company could not guarantee the quality, safety or efficacy of PetMed drugs and that company's financial results were not sustainable.

PetMed is a pet pharmacy offering prescription and non-prescription pet medications, as well as health and nutritional supplements.

• Computer Associates International Inc.
• NICE Systems Ltd.
• Southwest Gas Corp.
• Rural Metro Corp
• Warnaco Group Inc.

For Lucent investors, where is the money?

Many investors who purchased shares of Lucent Technologies Inc. between December 1999 and December 2000 may have heard about the recent settlement obtained by the Securities and Exchange Commission that will return as much as $25 million in disgorgement penalties to eligible class members. Several subscribers have contacted us asking what they need to do to obtain their share of the disgorgement settlement fund. The answer is quite simple: Nothing. This is good news for investors who have been diligently filing claims in securities class action settlements, but not so good news for those who have not.

In an unusual request, the SEC has petitioned a federal judge in New Jersey to transfer the disgorgement fund to the claims administrator for the settlement fund of the recently disbursed civil action 00-621 (In Re Lucent Technologies Inc. Securities Litigation). Under the SEC's proposal, investors who filed eligible claims in 00-621 will automatically be eligible to receive their share of the disgorgement fund without having to file further claims or take further action. As it appears, investors who failed to file claims for the original class action settlement fund will simply be out of luck.

Whether this is a one-time arrangement by the agency or will become an accepted SEC method for the distribution of Fair Funds settlements remains to be seen. To those investors that have yet to see the benefits of filing claims in securities class action settlements – the stakes just got higher. As for those investors who already diligently monitor securities class action settlements and file their claims, be assured that another check will soon be waiting in the mailbox.