Insurers Wait As IPO Laddering Cases Mount

Some insurers cover both types of defendants (securities underwriters and issuers), he said.

In general, IPO tie-in and laddering cases allege what one plaintiffs attorney refers to as "allocation mischief"some type of wrongdoing in the process during which lead securities underwriters that handle initial public offerings allocate IPO shares to their customers.

The alleged mischief might come in the form of "tie-in" deals, in which securities underwriters acceptand, more importantly, dont discloseexcessive commissions on unrelated securities sales from customers who wanted hefty portions of IPO shares.

Or it could come in the form of a special form of a "tie-in," known as a "laddering" arrangement, where a customer agrees to buy shares at progressively higher prices in the aftermarket (the exchange trading market, where proceeds go to investors rather than the issuers of securities). Plaintiffs say the laddering arrangements caused artificial spikes in aftermarket stock prices and perpetuated artificial demand for IPO shares.

The sheer volume of defendants is presenting case management headaches, acknowledged Melvyn Weiss, a plaintiffs attorney with Milberg, Weiss, Bershad, Hynes & Lerach in New York, and Fred Isquith, a plaintiffs attorney with the law firm of Wolf Haldenstein Adler Freeman & Herz in New York.

In September, Mr. Weiss and Mr. Isquith spoke to insurers who packed a New York hotel ballroom during a special conference on IPO tie-in/laddering claims, sponsored by the Minneapolis-based Professional Liability Underwriting Society.

"I've heard estimates that there are as many as 1,000 IPO cases that might be implicated," Mr. Isquith said. "But I doubt very much that plaintiffs lawyers have the resources to be able to bring 1,000 cases between now and January."

Conference participants and other experts most often refer to Dec. 6, 2001 as the likely cutoff date for filing claims. The statute of limitations for filing securities claims runs for one year after the discovery of alleged fraud.

On Dec. 6, 2000, the Wall Street Journal ran an article exposing regulatory investigations of several investment bankspresumably putting investors on notice that underwriters had participated in the practices soon to be alleged in civil lawsuits. (Some, however, suggest an earlier date, since the U.S. Securities and Exchange Commission issued a bulletin warning against tie-ins in August 2000.)

"When you get articles like that, the telephone starts ringing off the hook," Mr. Weiss said, noting that since the article appeared "Milberg Weiss alone has filed 120 lawsuits." In the Southern District of New York, 160-170 IPOs have been hit with 700-800 lawsuits brought by 20-25 law firms, he said, noting that some of the firms filed 60-80 cases.

"This has become a daunting procedural, logistical task to manage," he said, going on to share some of the proposals that his firm and others have put before the courts to consolidate the cases.

Plaintiffs attorneys also admitted that some procedural obstacles stand in the way of proving allegations in the securities cases, leading them to craft some unique strategies to overcome themincluding the filing of a second set of non-securities cases (See related article, page 12.)

On the defense side of the table, Nicki Locker of Wilson, Sonsini, Goodrich & Rosati in Palo Alto, and Greg Markel of Brobeck Phleger & Harrison in New York, said some of the claims in the securities cases against issuers just arent that strong.

In particular, they distinguish those cases alleging violations of Section 10-b-5 of the Securities Acts of 1934 from those alleging violations of Section 11 of the 1933 Act.

Section 11 of the 1993 Act, which relates to registrations of securities offerings, imposes strict liability for material misrepresentations in registration statements (including IPO prospectuses).

Under Section 10-b-5 of the 1934 Act, which relates to the employment of manipulative and deceptive devices in securities transactions generally, a misrepresentation (like failure to disclose commission or laddering agreements) is not enough to impose liability. Instead, fraud or intentional misrepresentation must be demonstrated.

The 10-b-5 claims are "embarrassingly weak," Mr. Markel said. He also said that Section 11 wasnt designed for situations like this, where an issuer may have known "absolutely nothing about the conduct by an underwriter in the allocation."

Because Section 11 imposes strict liability, "as it stands now, that issuer may be liable for very significant damages…simply because of bad conduct by someone unrelated," Mr. Markel said.

"But he got the money from that bad conduct," Mr. Weiss retorted. "I wouldn't go brandishing this concept that the issuers are so lily white and pure and shouldnt be looked at," he said.

"How about cooperation that the issuers gave in coming up with assessments of the companies prospects so that the analysts could write rosy reports?" he asked. "The issuers were sitting there and not knowing whats going on?" he said incredulously.

Mr. Isquith insisted that the self-interest of young entrepreneurs in their 20s and 30s drove them to instruct underwriters: "Get me into the public market and turn my nothing into billions or hundreds of millions. I dont care what you do. Just get me there."

Eric Moskowitz, an associate editor for RedHerring Magazine, had the audience spellbound with an example of market manipulation that he had uncovered in his investigative reports (and reported on RedHerring.com). Mr. Moskowitz reported that a portfolio manager whose firm got 30,000 shares of a broadband networking company at a $17 offering price had promised to buy double the sharesup to $40 per sharein the aftermarket.

"Its just the way that Wall Street worked," the reporter said. "They were just sort of working in this gray area [that] the SEC is implementing regulations" to address now.

"A hedge fund manager or institutional investor [is] being paid money to make their clients money. So in their minds, this wasnt wrong," he said, noting that it was disgruntled, second-tier institutional investors who werent allowed in on the IPOs that blew the whistle on the process.

Mr. Weiss said there were "broader consequences" than damage to a disgruntled few. "It affected, in my view, the entire market. The perception of what was going on was artificial and people were carrying that perception to the rest of the market. Its a disgrace from the standpoint of our entire capital formation system," he said.

Mr. Isquith agreed. "What may have been to Chairman Greenspans quite prescient view, irrational exuberance, may have been irrationality and exuberance forced upon markets, not by enthusiasm, but by manipulative conduct which had the effect of causing prices in stocks in particular industry segments to be rated far above any rational valuation," he said.

"This is a great deal for them to be able to prove," Ms. Locker said. "Fundamentally what theyre saying is that investment banks bear responsibility for this entire IPO crazethat they created it, and that the investors themselves bear no responsibility for throwing money at companies that never earned a dime, didnt have profits, barely had revenues and had risk factors out there saying, we may never make a dime."

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, November 12, 2001. Copyright 2001 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.

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