Last month, Southern District Judge Deborah Batts approved a $115 million settlement to end a securities fraud class action that American International Group Inc. (AIG) shareholders brought against the company’s former CEO, Maurice "Hank" Greenberg, and other AIG executives.1 Although New York Attorney General Eric Schneiderman has also sued Greenberg (for the same transactions that attracted AIG shareholders’ ire), he had little reason to celebrate the private plaintiffs’ victory. That is because, as he forcefully argued in the objection that he presented to Batts, the settlement dramatically limits the relief the attorney general is able to win in his own lawsuit.2
The private plaintiffs’ win comes at the attorney general’s expense due to the confluence of two recent New York Court of Appeals decisions. The first clarified that private litigants and the attorney general could both litigate their claims against Greenberg at the same time (a question that was previously in doubt).3 The second case suggested that whichever party wins (or settles) first will have the exclusive right to recover restitution.4
The AIG settlement thus offers a simple yet consequential lesson for the attorney general and the plaintiffs’ bar: hurry. When both the state and private parties are litigating these types of claims at once, the first party to settle will win the restitution prize. This lesson is especially timely in light of the massive residential mortgage-backed securities lawsuits that the attorney general filed last year.
In October and November 2012, the attorney general went where countless private plaintiffs have gone before: to court, where he filed lawsuits against JPMorgan Chase & Co. and Credit Suisse over misrepresentations they allegedly made in order to promote and sell residential mortgage-backed securities (RMBS).5
Like the Greenberg case, the RMBS cases were brought under the Martin Act, which regulates the offering and sale of securities to protect the public from fraud. The Martin Act is New York State’s "blue sky law," a name that is said to "indicate the evil at which it is aimed, that is,…speculative schemes which have no more basis than so many feet of blue sky."6 The act prohibits "fraud, deception, concealment, suppression, [or] false pretense" related to the "issuance, distribution, exchange, sale, negotiation or purchase…of any securities or commodities."7
In the RMBS cases, the attorney general alleges that the banks "systematically failed to fully evaluate the loans [in their residential mortgage-backed securities], largely ignored the defects that [their] limited review did uncover, and kept investors in the dark about both the inadequacy of [their] review procedures and the defects in the underlying loans."8 In addition to other relief, the attorney general’s actions seek "restitution of all funds obtained from investors in connection with the fraudulent and deceptive acts."
JPMorgan and Credit Suisse representatives were quoted in news articles disparaging the state’s suits for their reliance on "’recycled claims’ made by private plaintiffs."9 Whatever one thinks of that criticism, there can be no doubt that, well before the attorney general found his way to court, a number of investors in (and insurers of) the banks’ mortgage-backed securities—including Bear investors Dexia SA and DZ Bank AG and Credit Suisse insurer Ambac Assurance, for example—filed suit against the banks alleging that they fraudulently concealed problems with those securities.10 These plaintiffs seek restitution of the sums they invested with, or lost as a result of, the banks’ activities, and the amount of money at stake is astronomical. DZ Bank states that it invested over $84 million in Bear’s RMBS securities, while Dexia’s claimed investment was over $1.7 billion. Although Ambac’s lawsuit was discontinued in March on undisclosed terms, the insurer had alleged that it made more than $46 million in claims payments, and expected to pay tens of millions of dollars more.11
Once upon a time, the banks could have argued that the private plaintiffs’ claims were actually preempted by the Martin Act—even if the attorney general took no action. And they might have succeeded. For many years, state and federal courts were divided over whether the Martin Act preempted private, common-law claims that were based on facts that would also allow the attorney general to bring an action under the act.12
But in a 2011 case, Assured Guaranty (UK) Ltd. v. J.P. Morgan Investment Management, the Court of Appeals finally clarified that while "a private litigant may not pursue a common-law cause of action where the claim is predicated solely on a violation of the Martin Act…and would not exist but for the statute[,]…an injured investor may bring a common-law claim (for fraud or otherwise) that is not entirely dependent on the Martin Act for its viability."13 In the context of the RMBS suits, this means that the private plaintiffs do not have to wait for the attorney general to act as their exclusive remedy. Rather, they can, and did, bring claims in their own right, despite the existence of a potential Martin Act case that might be brought by the attorney general.
Even if the private suits are not preempted by the Martin Act, it is unlikely that the private plaintiffs and the attorney general will both be able to "win" their cases, at least in the sense of recovering restitution for the victim-investors. The Court of Appeals addressed this issue in 2008 in People v. Applied Card. In that case, the attorney general filed suit alleging that a bank had violated the Martin Act by actively soliciting consumers in the "subprime" credit market to apply for its credit cards while misrepresenting the credit limits and fees that would apply to the cards.14 The problem (at least for the attorney general) was that the victims of these misrepresentations had already entered into a nationwide settlement in California in which they obtained restitution for themselves. The Court of Appeals held that, at least with respect to those victims who were bound by the settlement agreement, the attorney general was not permitted to "double-recover" restitution.
While no case yet seems to have dealt with the Applied Card situation in reverse—that is, the scenario in which the attorney general wins or settles his case first—the logic of the case suggests that the private plaintiffs would be out of luck. Res judicata concerns (that is, "a respect for finality") would prevent them from double-recovering restitution that had already been awarded in the attorney general’s case.
Interestingly, the attorney general has opted to avoid any further litigation of the Applied Card question in the Court of Appeals. That court is expected to hear arguments on May 28 in the AIG case, and a central question before the court would have been the effect of the AIG settlement on the attorney general’s claim for restitution. But in late April, the attorney general sent a letter to the court notifying it that he would no longer be seeking those damages.15 Many observers suggested that this move was intended to "neutraliz[e] a long-awaited challenge to his office’s power."16
Arguably, the practical effect for the banks’ alleged victims will be the same no matter who wins the restitution race: whatever restitution monies are recovered should ultimately go to them regardless. Indeed, the filing of the attorney general suit might provide the banks with a further inducement to settle with the private plaintiffs, thereby redounding to the victims’ benefit.
But in a typical race, one person wins because everyone else loses. And the attorney general’s objections in the Greenberg case made clear that he was not satisfied being relegated to a bargaining chip in the private plaintiffs’ settlement negotiations, particularly because he felt that they set too low a value on the fact that settlement of their claims would effectively nullify his.
All of this suggests that the attorney general, who actually filed an amicus brief in the support of the result in Assured Guaranty, may be living to regret that choice. At the time, the Court of Appeals and the attorney general seemed to agree that more plaintiffs would lead to a greater likelihood of securities fraudsters being brought to justice.17 But the attorney general may have failed to fully appreciate that the plaintiffs’ bar, which has its own incentives to settle cases and win attorneys’ fees, would not necessarily value victims’ claims as highly, or pursue them as vigorously, as he might.
The RMBS suits are contentious and newsworthy because they raise difficult questions about what is required to make whole not just one or two victims, but an entire economy that was deeply shaken by the collapse of the RMBS market. It will also be worth watching to see if and how the plaintiffs’ litigation strategies are affected by Applied Card, and to attempt to learn some lessons in the process about the benefits and perils of parallel Martin Act and common-law litigation regarding very similar or identical facts.
Andrew E. Tomback is a partner and Megan Quattlebaum is an associate at Zuckerman Spaeder in New York.
1. In re: American Int’l Grp. Sec. Lit., No. 1:04-cv-08141 (S.D.N.Y. Apr. 11, 2013).
2. Objection of the Attorney General of the State of New York to the Proposed Starr Settlement at 21, In re: American Int’l Grp. Sec. Lit., No. 1:04-cv-08141 (S.D.N.Y. Aug. 17, 2013).
3. Assured Guaranty (UK) Ltd. V. J.P. Morgan Investment Management, No. 227, 2011 N.Y. LEXIS 3658 (Dec. 20, 2011).
4. New York v. Applied Card Sys.,Inc. 11 N.Y.3d 105 (2008).
5. Complaint at 1-5, New York v. J.P. Morgan Securities, No. 45-1556 (Sup. Ct., N.Y. Cnty. 2012); Complaint at 1-3, New York v. Credit Suisse Securities (USA) LLC, No. 45-1802 (Sup. Ct. N.Y. Cnty. 2012). The lawsuit against JP Morgan relates to securities that were created and sold by Bear Stearns, the securities firm that JP Morgan acquired in 2008.
6. Hall v. Geiger-Jones Co., 242 U.S. 539, 550 (1917).
7. N.Y. Gen. Bus. Law § 352-c.
8. Complaint at 2, New York v. J.P. Morgan Securities, No. 45-1556 (Sup. Ct., NY Co. 2012).
9. Michael Virtanen, Too Late for NY Prosecution in Securities Meltdown, The Associated Press (Oct. 4, 2012); see also Reuters, New York Sues Credit Suisse Over Mortgages, The New York Times (Nov. 20, 2012) (complaining that the attorney general’s complaint "recycles baseless claims from private lawsuits").
10. See Dexia SA/NV v. Bear Stearns, No. 65-0108 (Sup. Ct. N.Y. Cnty. 2012); Deutsche Zentral-Genossenschaftsbank AG v. JP Morgan Chase, No. 65-0293 (Sup. Ct. N.Y. Cnty. 2012); Ambac Assurance Corp. v. Credit Suisse Securities (USA), No. 60-0070 (Sup. Ct. N.Y. Cnty. 2012)
11. Megan Stride, Ambac, Credit Suisse End $46M MBS Insurance Coverage Row, Law 360 (Mar. 6, 2013), available at http://www.law360.com/articles/421165/ambac-credit-suisse-end-46m-mbs-insurance-coverage-row.
12. See Assured Guaranty v. J.P. Morgan Investment Management, No. 227, 2011 N.Y. LEXIS 3658, p.8 n.2 (Dec. 20, 2011). An exception was made for common law fraud, which requires proof of deceitful intent—an additional element not required by the Act. Private plaintiffs have alleged common law fraud claims against JPMorgan, and those claims likely would not have been found to be preempted even before Assured Guaranty.
13. Id at 10
14. People v. Applied Card, 11 N.Y.3d 105 (2008).
15. Objection of the Attorney General of the State of New York to the Proposed Starr Settlement at 14, In re: American Int’l Grp. Sec. Lit., No. 1:04-cv-08141 (S.D.N.Y. Aug. 17, 2013) (internal citations omitted). Judge Batts ultimately held that the attorney general, as a non-class member, did not have standing to object to the settlement, and she denied his motion to intervene in the private plaintiffs’ action. Thus, the settlement was approved despite the attorney general’s objections. The attorney general has appealed from the standing decision.
16. Karen Freifeld, New York Drop of Damages Claim Avoids Test of AG’s Power, Reuters (May 3, 2013), available at http://www.insurancejournal.com/news/east/2013/05/03/290831.htm.
17. See Assured Guaranty v. J.P. Morgan Investment Management, No. 227, 2011 N.Y. LEXIS 3658, p.10 (Dec. 20, 2011) (internal quotation marks and citations omitted) ("We agree with the Attorney General that the purpose of the Martin Act is not impaired by private common-law actions that have a legal basis independent of the statute because proceedings by the Attorney General and private actions further the same goal—combatting fraud and deception in securities transactions. Moreover…to hold that the Martin Act precludes properly pleaded common-law actions would leave the marketplace less protected than it was before the Martin Act’s passage, which can hardly have been the goal of its drafters.").