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In the reaction to the indictment last month of Milberg Weiss Bershad & Schulman, the nation’s best known class action law firm, no one missed the parallels to Arthur Andersen, which shut down shortly after its indictment in 2002. But which parallels are the most apt? And what larger implications does the Milberg Weiss prosecution carry for the future of securities litigation? Clearly, professional services firms-law or accounting-are fragile. Both clients and then partners may flee to competitors if the firm becomes stigmatized. Already, this process has begun at Milberg, as some clients and partners have departed. But does this mean that a law firm should not be indicted? Here, the contrasts with the Arthur Andersen case are more striking than the parallels. Only one relatively low-ranking partner at Andersen, a firm with many thousands of employees, was charged with ordering the destruction of documents. The entire episode lasted only a few days, and no involvement by senior management was alleged. The public injury from Andersen’s demise was also self-evident because it reduced an already overly concentrated industry to the current Final Four. In contrast, the Milberg Weiss indictment alleges a conspiracy extending from 1981 through 2005, during which the defendants “agreed to and did secretly pay kickbacks to named plaintiffs in class actions and shareholder derivative actions in which Milberg Weiss served as counsel.” Kickbacks were alleged to have been made over this period with regard to approximately 180 lawsuits to three professional plaintiffs and their relatives. Also unlike the Andersen case, the highest-ranking partners of Milberg Weiss were either indicted or described in coded terms in the indictment that suggest the government is still actively seeking their indictment. Finally, dominant as Milberg Weiss has been in securities class action litigation, the barriers to entry are much lower in the case of plaintiffs’ litigation than in the case of global accounting, and the firm is not irreplaceable. Refusing a deferred prosecution agreement Still, there is one striking similarity between the two cases: In both, the government was prepared to discuss a deferred prosecution agreement, but the defendant would not accept the government’s terms. Why? In Andersen’s case, the negotiations probably broke down because many Andersen partners found it easier to move elsewhere than attempt to resuscitate a severely damaged firm (which would have probably required a significant capital contribution from the partners to settle the civil litigation). But this was not Milberg Weiss’s position. If it had accepted the government’s offer, it would have survived without question. Why didn’t it? If one goes to the firm’s new legal defense Web site ( www.milbergweissjustice.com), one learns that the firm and the government “held intense negotiations” for six months and that Milberg had hired a former federal prosecutor to supervise its implementation of “best practices” designed to prevent referral fees paid by it to other law firms from being passed on to the client. But the firm claimed it could not waive the attorney-client privilege for its clients. This response seems incomplete. Of course, the government could not ask it to waive its clients’ privilege, but it could ask Milberg to waive its own privilege and reveal all communications with its own law firm. At this point, the key difference between the Arthur Andersen and Milberg Weiss prosecutions comes more clearly into focus: Milberg Weiss is a firm with relatively few equity partners (the two indicted partners held approximately 32%, and its founder, Melvyn Weiss, presumably owns at least as much). Were it to waive its attorney-client privilege, the information thereby given to the government might make their defense untenable. In short, unlike a public corporation, where the board, when pushed, will accept the government’s terms in order to protect the shareholders, a firm with controlling shareholders will predictably act to protect those in control. Of course, all defendants are entitled to a presumption of innocence. The defense of Milberg Weiss and its partners is that they only paid referral fees to other law firms or lawyers and did not know that the payments were being passed through to the clients. This issue is for the jury to decide, but defense counsel had best be prepared to answer one obvious question: Does a law firm need to pay referral fees to another law firm 70 or more times to obtain the same plaintiff over and over? Could it not have simply asked its client, after the first several cases, if it could contact him directly about future cases? If he refuses, the issue of willful blindness begins to surface. Regardless of the fate of the firm and its partners, the greater significance of the Milberg Weiss indictment is that it marks the obsolescence of the business model long used by at least some of the plaintiffs’ bar in class and derivative actions. For decades, plaintiffs’ firms have used professional plaintiffs-individuals with broad portfolios of small holdings who would appear in case after case. The most legendary of these plaintiffs-Harry Lewis and William Weinberger-each appeared as the named plaintiff in at least 500 or more cases, and the Delaware Chancery Court once jokingly ventured the speculation that Lewis must have been a “street name,” rather than a real person. See Lewis v. Anderson, 453 A.2d 474, 475 n.1 (Del. Ch. 1982). Many have long wondered as to what could motivate anyone with no real financial stake to be deposed in hundreds of cases, and the current indictment will suggest to some that under-the-table payments have long been customary. Indeed, professional plaintiffs appear to have maintained broad and inclusive stock portfolios with trivial holdings that were designed to give their law firms immediate access to court. One does not logically do this for free. In any event, for the future, the professional plaintiff seems headed for extinction. Not only will most be unwilling to risk criminal prosecution, but the referring attorney who receives the payment seems even more exposed. From here on, if a plaintiffs’ firm pays a referral fee to another law firm, which then makes a substantial payment to its client, the government has an easy case. Does the disappearance of professional plaintiffs matter for securities class actions? A too facile answer is that the professional plaintiff was already being replaced by the public pension fund, which was given the right by the Private Securities Litigation Reform Act of 1995 (PSLRA) to take control of the securities class action based on its larger financial stake. Today, institutional investors can easily pre-empt professional plaintiffs with small holdings, but they have done so only to a limited degree. In general, only the public pension funds have volunteered to take on the role of lead plaintiff, and they have “cherry picked” their cases, accepting the role in large, highly publicized actions, such as Enron Corp. and WorldCom Inc., but declining smaller cases. Thus, professors James Cox and Randall Thomas of Duke and Vanderbilt law schools find in a forthcoming study that, since the PSLRA, institutional investors have appeared as lead plaintiff in less than 18% of the sample of cases they studied. More recently, this percentage has risen. Cornerstone Research has found that institutional investors served as lead plaintiff in 35% of the securities class actions settled in 2005. But that still leaves 65% of the cases in which no institutional investor was willing to serve. Finding a replacement for the professional plaintiff Who then will replace the professional plaintiff? Possibly, aggregations of individuals will serve as lead plaintiff on a one-time-only basis. Another, and more ominous, possibility is that pay-to-play practices may evolve so that some institutions, or their managers, have a greater incentive to serve as lead plaintiff. State and city controllers already have a dubious incentive to allow the pension funds they control to serve as lead plaintiffs in return for political contributions. Arguably, they are renting out their pension funds, but no discernible injury to the fund is evident, and many institutional investors have engaged in serious arm’s length bargaining with plaintiffs’ law firms to reduce their fee awards below the formerly prevailing averages. Much grayer practices are now developing, however, under which some plaintiffs’ firms share their legal fees with the general counsel of pension funds serving as lead plaintiff. Even if such fee sharing is permissible, it appears not to have been disclosed to the court, either at the time of the selection of the lead plaintiff or at the fee-award stage. Such arrangements are undesirable, in part because the PSLRA contemplates that the lead plaintiff monitor class counsel, and the pension fund’s attorney is probably the only person who can perform this role capably. Ironically, the old practice of lawyers hiring the client in class actions tends to reappear in new and unanticipated forms. The Milberg Weiss indictment represents a major black eye for the plaintiffs’ bar and may encourage business lobbyists to seek new and restrictive legislation. In that light, the plaintiffs’ bar would be well advised to respond proactively and develop its own code of best practices. Sharing fees with anyone associated with the lead plaintiff, and similar practices, should be placed off limits. If members of the plaintiffs’ bar do not seek to clean up their act in light of the Milberg Weiss indictment, they increase the risk that others, including Congress, may attempt to do it for them. Conceivably, the reaction could even be strong enough that state bar associations and disciplinary committees, which have long rivaled the ostrich in their ability to keep their heads buried, might awake and conduct investigations. Well, maybe. John C. Coffee Jr. is the Adolf A. Berle Professor of Law at Columbia Law School and director of its Center on Corporate Governance.

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