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Tom Padgett had lovely plans for his future. After 30 years of working in the petrochemical industry, Padgett had intended to retire last June at age 59. Now he expects to keep working for another 10 years. He had planned to help pay for his grandchildren’s college education and to offer financial assistance to other friends and relatives. “Now,” says Padgett, “we have to concentrate on helping ourselves.” What happened? Padgett was an employee of Enron Corp. and, over the years, he had transferred almost all of the money in his 401(k) account into Enron stock. The value of that 401(k) has plummeted from $650,000 in December 2000 to $15,000. He has joined a class action against Enron, hoping to recover all the money he’s lost. “But I’m realistic enough to know that won’t happen,” he says. “Hopefully, we’ll get half of it back.” It is unlikely that Padgett and the thousands of other disappointed shareholders will be able to recover anything close to 50 cents on the dollar, according to two recent studies on securities class actions. These reports indicate that securities class actions — which have many similarities to ERISA suits brought by disgruntled 401(k) owners such as Padgett — typically recover damages worth just 5 percent to 6 percent of a stock’s market decline. Moreover, various complications may reduce any recovery in the Enron suit and in the well-publicized civil suits against other troubled giants such as Tyco International Ltd., WorldCom Inc. and Adelphia Communications Corp. Plaintiffs’ attorneys say it is far too early to estimate the amount of any potential recovery; discovery hasn’t started. But they express optimism, disputing the results of the studies on class actions and pointing to legal strategies that, they say, may increase the recovery in these particular cases. REPORT ON RECOVERIES One attorney involved in the Tyco suit, Paul Geller of Boca Raton, Fla.’s Cauley Geller Bowman & Coates, says, “Nobody in the case is going to be satisfied unless there is a recovery that is at least 50 cents on the dollar. People will be sorely disappointed if it is anything less than that.” A 2002 report by Cornerstone Research, a national consulting firm that assists defendants in class actions, said that the median settlement in securities class actions recovered only 5.1 percent of estimated damages. The study defined damages as the decrease in share value that occurred after the fraud was discovered, adjusted by changes in a general market index over that period. (For example, if the shares of a Nasdaq-traded company lost 80 percent of their value during a period when the Nasdaq went down 10 percent, the damages would be 70 percent.) The study covered all 303 securities class action settlements filed after the passage of the Private Securities Litigation Reform Act (PSLRA) on Dec. 22, 1995, through December 2001. (It is available online at the securities.stanford.edu Web site: click here.) A 2000 report by an international consulting group, Law and Economics Consulting Group Inc. (LECG), and a business school professor, provided similar results, finding that the median securities fraud class action settlement recovered just 2 percent to 3 percent of potential investment losses (measured by market drop), while the average settlement recovered 3 percent to 7 percent of such losses. The findings were based on an analysis of 1,203 federal case filings and 92 state court filings from 1988 to 1999. (The report is available online at the securities.stanford.edu Web site: click here.) In short, plaintiffs such as Padgett should not expect to recover much, according to Mukesh Bajaj, managing director of LECG and lead author of the 2000 study. “If historical norms are any guide, I don’t think [Padgett] can hope to recoup any significant portion of the money he lost,” Bajaj says. Others disagree. “Experts who say recoveries are 5 percent to 7 percent have engaged in too simplistic an analysis,” says Joel Seligman, dean of the Washington University School of Law. He says, for example, that in determining damages it is not enough to discount the drop in a stock’s value by the general change in a market index. It is necessary to look at market factors affecting that particular company. If the defendant was an energy company and its stock declined in part because oil and gas prices fell, then the estimated damages must be reduced because of that, he says. Some criticize the studies as biased. People creating such studies often work for corporations and accounting firms who hate class actions, says Steve Toll, a partner in the plaintiffs’ class action firm of Cohen, Milstein, Hausfeld & Toll of Washington, D.C. These researchers, he says, have an interest in showing that class actions provide little help to plaintiffs. These critiques are likely to be of little interest to plaintiffs such as Padgett, who are primarily concerned with making up their losses. A special problem facing the plaintiffs in the Enron, Adelphia, WorldCom and Tyco suits is the sheer magnitude of the alleged frauds. “When you have huge cases like WorldCom, it is harder to make everyone whole because you need to secure more resources,” says Gene Cauley, a partner at Little Rock, Ark.’s Cauley Geller, which is representing some plaintiffs in that case. “All things being equal, it is easier to recover a greater percentage of losses in a smaller case.” The Cornerstone study backs up this analysis. When damages in a suit were below $50 million, the median class action settlement recovered 10.3 percent of damages, it said. When damages were more than $400 million, the median settlement recovered just 2.1 percent of damages. Another problem facing the plaintiffs is that the defendant companies are either bankrupt or facing serious financial problems and won’t be able to pay much in the way of damages. However, plaintiffs’ counsel in these cases are seeking other deep-pocket defendants. For instance, they’re trying to recover from the defendant corporations’ insurers. Enron has a breach-of-fiduciary-duty policy that provides $85 million in coverage, according to Lynn Lincoln Sarko, a partner in Seattle’s Keller Rohrback, which is lead counsel in one of the suits against Enron. “I think the board of directors’ policy is for $300 to $350 million,” he adds. But getting the insurer to pay isn’t as easy as it seems, warned Sarko. For instance, a typical exclusion for directors’ and officers’ insurance is for fraud — which the company allegedly committed. Plaintiffs are also suing company executives and directors. “Ken Lay and Jeff Fastow have assets,” Sarko says, referring to Enron’s former chief executive and chief financial officer. “WorldCom executives have a bunch of money.” In class actions brought by participants in 401(k) plans, the plans’ fiduciaries are being sued for breach of fiduciary duty. “Northern Trust, the trustee of [Enron's 401(k)] plan, and one of the administrators of the plan, is one of the largest trust companies in America,” says Sarko. “It owns one of the largest towers in Chicago, which would be nice [for the plaintiffs] to have.” The accountants who approved the defendants’ financial statements are also being sued. But the outside auditor for Enron and WorldCom was Arthur Andersen, which has run into its own financial difficulties. (Tyco was audited by PricewaterhouseCoopers and Adelphia was audited by Deloitte & Touche, both of which are solvent.) DEEP POCKETS The deepest pockets in these cases may belong to financial institutions. Enron plaintiffs have sued Merrill Lynch, the Bank of New York and Credit Suisse First Boston for violating the Racketeer Influenced Corrupt Organizations Act and civil fraud laws, because these companies allegedly helped set up Enron’s off-the-books partnerships and knew about financial shenanigans. The Cornerstone survey confirms that pulling in additional defendants dramatically boosted plaintiffs’ recoveries. In suits alleging accounting irregularities, the median settlement was for 4.7 percent of estimated damages; when an accounting firm was also named as a defendant, recovery jumped to 7.3 percent. Yet even if banks and accountants are held liable in these well-publicized class actions, federal law limits how much these actors must pay. Under PSLRA, contributors to fraud can be held liable for only their proportionate share of the fraud. “Given the absence of aider and abettor liability, it virtually guarantees that victims in cases like this will recover only a small percentage of their losses,” says Barbara Roper, director of investor protection at the Consumer Federation of America. “In enacting the PSLRA, Congress thought it was more important that participants in the fraud pay only their fair share, than for the victims of the fraud to fully recover their losses,” she said.

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