Time Is Right For ClaimMadeSettlements In Securities Fraud ClassActions

Industry commentators share little doubtthat we are in an ever-hardening directors & officers insurancemarket, a phenomenon that began earlier this year with fairlyregular and sustained premium increases on renewals of expiringpolicies.

Concurrently, there has been an increase in the cost ofreinsurance and a shrinkage of reinsurance capacity, as well asrestrictions in the scope of coverage under the policies throughmore broadly-worded exclusions and introduction of significantcoinsurance and/or pre-determined allocation factors.

While many of these factors were present in the last sustainedhard market in the 1980s and seemingly will enable prudent insurersto write more D&O business, there is another compelling factorthat should not be overlooked if either insurers or theirpolicyholders are seeking to level the playing field withplaintiffs shareholders interests.

Specifically, the insurers and the defendants should be strivingto stem the ever-increasing settlement values and defense costs insecurities class action litigation.

As of 1999, the average settlement was approaching $15million–and perhaps as high as $29 million if you include Cendantand other aberrational settlements.

This contrasts with average settlements of no more than $5-6million in the years before the Private Securities LitigationReform Act was enacted in late 1995. Defense costs in thelitigation often swell the insurers exposure by an additionalseven-figures or more.

While some observers may still foresee some downturn insecurities litigation as a result of the events of the Sept. 11tragedy, recent developments may beliethat premise. For example, after a hiatus of several weeks, newsecurities class action lawsuit filings appears to havesignificantly resumed.

A slight downturn in the frequency of ubiquitous IPO ladderingcases, in which IPO securities underwriters were charged withoffering allocated IPO shares to institutional investors notscheduled to receive them, began in August and is, thus, unrelatedto Sept. 11.

Finally, recent settlement values suggest that the expectationthat securities fraud defendants will benefit from positive publicsentiment in the wake of the impact of Sept. 11 on Wall Street maybe unfounded. Witness the $92.5 million settlement of securitieslitigation against The Boeing Company within two weeks after theWorld Trade Center bombing and the even more recent $457 millionsettlement involving Waste Management.

There is a strategy, however, that has been used successfully,albeit with limited frequency, in the past to hold down the valueof these class action settlements. That is the device knowncommonly as the “claim-made settlement.”

Although there can be slight variations, the essence of aclaim-made settlement lies first in the agreement of a maximumsettlement value for the class. This figure is derived bydetermining a dollar-per-share amount for damages and thenmultiplying that by the expected number of shares to come forwardby way for claiming shareholders.

At this point, there is little that differs from the moretraditional monetary settlements in this area.

However, the key to a claim-made settlement is what happens tothe unclaimed portion of the maximum settlement pot.

In order to create the proper incentive for the defenseinterests to settle, the claim-made settlement will provide for areturn of the “reverter” or unclaimed portion to thedefendants.

Logically, if the settlement has been funded entirely withinsurance proceeds, the reverter should go wholly to the insurerswho funded the settlement. If there has been some contribution fromthe insureds, the reverter should be shared on a pro-ratabasis.

This seems fair enough from the plaintiffs perspective, sincethe shareholders who care enough to come forward with their claimreceive no less than if the entire class came forward. What thenare some of the objections from other parties, and how can thedefendants and their insurers best address them?

First and foremost are the mercenary concerns of plaintiffscounsel. Simply put, their fear is that the smaller the ultimatesettlement pot, the smaller their fee award will be. There is aconcern that the court will not look at the maximum settlementamount in determining an award, but rather only consider theultimate payment to claiming shareholders.

This, however, is a weak argument because there has been littlein the way of a track record for claim-made settlements in recentyears and, in any event, courts have broad discretion in awardingplaintiff fees and costs.

Although most defendants and insurers are primarily focused onthe amount of a settlement fund actually paid over to shareholders,the defendants can agree to support some floor level fee award tothe plaintiffs lawyers on a percentage based on the maximumsettlement fund. This type of agreement could be used to gain theplaintiffs counsels support for a claim-made settlement.

Second, some courts may view these type settlements as creatinga potential windfall for the defense interests.

This is high speculation at best because the settlement amountsare typically only a relatively small percentage of the total classdamages at issue.

Further, there are many advocates of the interests of individualand institutional investors alike, who would now have even morereason to “beat the drums” so that all potential claimants areaware of and actively present their claims against the settlementfund.

A final argument from the plaintiffs is that if there is to beany reverter it should go to the plaintiffs counsel to be donatedto a charitable interest of their choice.

While there are many worthy charitable causes, and lawyers,corporations and others should all do their part to give freely andgenerously to the charity of their choice, it is respectfullysuggested that there are better means and sources of funds toaccomplish this.

Advocacy of claim-made settlements is just one tool that D&Oinsurers and their insureds must employ in bringing settlementvalues down to more fair and realistic levels. These efforts needto be coupled with other defense initiatives such as more vigorouschallenges to class certification and with challenges to plaintiffsdamages expert theories on Daubert standards where the judge actsas gatekeeper for determining what is admissable evidence.

There also needs to be a greater willingness to try more ofthese cases where the liability and causation defenses are notablystrong.

Unlike premium increases, coinsurance and restrictions on thescope of coverage, which unfortunately drive a wedge between theinterests of the insurer and the policyholder, all of theinitiatives discussed above are ones where the interests of theinsurer and insured converge.

Indeed, with the continuing emergence of higher retentionlevels, significant coinsurance percentages and potentialsettlement values that far exceed the total available limits ofinsurance, insureds are faced with an even greater financial stakein the outcome of this class action litigation. As a result, theyshould be more amenable to a workable partnership with theirinsurers in vigorous defense and settlement initiatives.

Joseph P. Monteleone is Vice President and Claims Counsel atHartford Financial Products in New York City.

Reproduced from National Underwriter Property &Casualty/Risk & Benefits Management Edition, December 3, 2001.Copyright 2001 by The National Underwriter Company in the serialpublication. All rights reserved.Copyright in this article as anindependent work may be held by the author.

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